Issue of Shares

Share is the smallest unit into which the total capital of the company is divided. For example, when a company decides to raise Rs. 50 crores of capital from the public by issuing shares, then it can divide its capital into units of a definite value, say Rs. 10/- or Rs. 100/- each. These individual units are called as its share.

After deciding the value of each share and number of shares to be issued, the company then invites the public to buy the shares. The investing public then buy the shares as per their capabilities. The investors who have purchased the shares or invested money in the shares are called the shareholders. They get dividend as return on their investment.

Investors are of different habits and temperaments. Some want to take lesser risk and are interested in a regular income. While others are ready to take greater risk in anticipation of huge profits in future. In order to tap the savings of different types of people, a company can issue two types of shares:

  1. Equity Shares
  2. Preference shares

1. Equity Shares

Equity shares are shares, which do not enjoy any preferential right in the matter of claim of dividend or repayment of capital. The equity shareholders get dividend only after making the payment of dividends on preference shares. There is no fixed rate of dividend for equity shareholders. The rate of dividend depends upon the surplus profits.

In case there are good profits, the company pays dividend to the equity shareholders at a higher rate. Again in case of winding up of a company, the equity share capital is refunded only after refunding the claims of others. In fact they are regarded as the owners of the company who exercise their authority through the voting rights they enjoy.

The money raised by issuing such shares is known as equity share capital. It is also called as ownership capital or owners’ fund.

Merits of Equity Shares

From Shareholders point of view

  • The equity shareholders are the owners of the company.
  • It is suitable for those who want to take risk for higher return.
  • The value of equity shares goes up in the stock market with the increase in profits of the concern.
  • Equity shares can be easily sold in the stock market.
  • The liability is limited to the nominal value of shares.
  • Equity shareholders have a say in the management of a company as they are conferred with voting rights.

From Management point of view

  • A company can raise capital by issuing equity shares without creating any charge on its fixed assets.
  • The capital raised by issuing equity shares is not required to be paid back during the lifetime of the company. It will be paid back only when the company is winding up.
  • There is no binding on the company to pay dividend on equity shares. The company may declare dividend only if there are enough profits.
  • If a company raises more capital by issuing equity shares, it leads to greater confidence among the creditors.

Limitations of Equity Shares

From Shareholders point of view

  • Equity shareholders get dividend only when the company earns sufficient profits. The decision to declare dividend lies with the Board of Directors of the company.
  • There is high speculation in equity shares. This is particularly so in the time of boom when profitability of the companies is high.
  • Equity shareholders bear a very high degree of risk. In case of losses they do not get dividend, and in case of winding up of a company, they are the last to get the refund of their money invested. Equity shares actually swim and sink with the fate of the company.

From Management point of view

  • It requires more formalities and procedural delay to raise funds by issuing equity shares. Also the cost of raising capital through equity share is more as compared to debt.
  • As the equity shareholders carry voting rights, groups are formed to garner the votes and grab the control of the company. This may lead to conflict of interests, which is harmful for the smooth functioning of a company.

2. Preference Shares

Preference Shares are those shares, which carry preferential rights in respect of dividend and return of capital. Before any dividend is paid to the equity shares, the dividend at a fixed rate must be paid on the preference shares. However, this dividend is payable only if there are profits.

Again at the time of winding up, the holder of the preference shares will get the return of their capital before anything is paid to the equity shareholders. The holders of the preference shares do not have any voting right. So, they cannot take part in the management of the company. It is not compulsory on the part of the company to issue preference shares.

Types of Preference Share

A company has the option to issue different types of preference share.

  1. Convertible and Non-convertible Preference Share: The preference shares which can be converted into equity shares after a specified period of time are known as convertible preference share. Otherwise, it is known as non-convertible preference share.

  2. Cumulative and Non-cumulative Preference Share: In cumulative preference shares, the unpaid dividends are accumulated and carried forward for payment in future years. On the other hand, in non-cumulative preference share, the dividend is not accumulated if it is not paid out of the current year’s profit.

  3. Participating and Non-participating Preference Share: Participating preference shares have a right to share the profit after making payment of divided at a pre-decided rate to the equity shares. The non-participating preference shares do not enjoy such a right.

  4. Redeemable and Irredeemable Preference Share: Preference shares having a fixed date of maturity are called as redeemable preference shares. Here, the company undertakes to return the amount to the preference shareholders immediately after the expiry of a fixed period. Where the amount of the preference shares is refunded only at the time of liquidation, are known an irredeemable preference shares.

Difference between equity shares and preference shares

Equity Shares

  1. It is compulsory to issue these shares.
  2. Dividend is paid on these shares only after paying dividend on preference shares.
  3. In case of winding up of the company the equity share capital is refunded only after the refund of preference share capital.
  4. The equity shareholders enjoy voting rights.
  5. The dividends on equity shares are not accumulated and therefore, cannot be carried forward.

Preference Shares

  1. It is not compulsory to issue these shares.
  2. Dividend is paid on these shares in preference to the equity shares.
  3. In case of winding up of the company the capital is refunded in preference over the equity shares.
  4. The preference shareholders do not have voting rights.
  5. The unpaid dividends are accumulated and are carried forward to the future years in case of cumulative preference shares.

The companies have to follow a prescribed procedure for issue of shares as per the Companies Act and the guidelines issued by Securities and Exchange Board of India (SEBI).