Preference Shares Meaning Preferred Stock

Preference Shares – Introduction:

Preference shares are also named as ‘Preferred Stock’. Preference shares are the shares in a particular company that are held by people who have the right to receive a share in the company’s profits before the common shareholders are paid out. They also have the upright the to have their capital repaid if the company falls and has to shut down. Preference Shares Meaning Preferred Stock.

Preference shares hold some specific or special rights. Initially, dividend is paid at a fixed rate on preference shares before it is don’t on any equity shares. Later, at the time of shutting the company, capital is repaid to preference shareholders before returning the equity capital. Preference shares do not hold any voting rights. However, holders of preference shares may demand voting rights if the dividends are not paid for two years or more than that on cumulative preference shares and three years or more on non-cumulative preference shares.

Preference Shares Meaning Preferred Stock

Preference shares have the qualities of both debentures and equity shares. Preference shares are equal to debentures. The rate of dividend is fixed and preference shareholders do not have the rights to vote. Preference share are like equity shares. Dividend on preference shares is payable only when there are profits and it is based on the judgement of the Board of Directors.

Preference shares can be classified into four categories:

1. Cumulative Preferred Stock
2. Non-Cumulative Preferred Stock
3. Participating Preferred Stock
4. Convertible Preferred Stock

Cumulative Preferred Stock: Cumulative preferred stock has a rule in which the company has to pay all the dividends to the preferred shareholders. Dividends which are deleted in the past are also included.

Non-Cumulative Preferred Stock: In Non-cumulative preferred stock, deleted or unpaid dividends are not issued to the preferred shareholders. If the company has decided not to pay dividends in any year, then the non-cumulative preferred stock shareholders doesn’t have any right to ask or demand the undergone dividends in the future anytime.

Participating Preferred Stock:

Participating preferred stock gives the authority to its shareholders to pay the dividends with the amount equal to the mentioned rate of preferred dividends. Along with this and another dividend is provided based on proposed condition. This extra dividend is created in such a way that it is paid to the shareholders only if the dividend amount received by the common shareholders is more than that of a predetermined share amount.

Preference Shares Meaning Preferred Stock
Preference Shares Meaning Preferred Stock

Convertible Preferred Stock: Convertible preferred stock consists of a choice that gives the shareholders an option to change their preferred shares into common shares usually after a pre-fixed date. Under normal conditions, convertible preferred shares are replaced based on the shareholder’s request. But the company might have a provision on this kind of share which allows the shareholders to force the issue. The weightage of the convertible common stocks is completely depending on the performance of the common stock. Preference Shares Meaning Preferred Stock

Advantages of Preference Shares:

1. Appeal to cautious Investors
2. No obligation for dividends
3. No Interference
4. Trading on equity
5. No charge on assets
6. Flexibility
7. Variety

Appeal to cautious Investors: Preference shares can be easily sold to such investors who choose the basic safety to their capital amount and expects a reasonable safety of their capital and want a consistent and fixed return on their shares.

No obligation for dividends: A company is not liable to pay dividend on preference shares if its profits in a specific year are inadequate or incomplete. It can delay the dividend or put off till later time in case of cumulative preference shares also. No fixed conditions or rules are created on its payments.

No interference: Commonly, preference shares do not bear voting rights. Hence, a company can raise capital without dipping the control. Equity shareholders have absolute control over the company.

Trading on equity: For preference shares, the rate of dividend is steady. Hence, when the earnings of the company increase, it can provide the enhance the benefits of trading on equity to the equity shareholders. Preference Shares Meaning Preferred Stock

No charge on assets: Preference shares do not create any debt or charge on the assets of the company. It can raise loans in the upcoming future by keep its fixed assets free of cost.

Preference Shares Meaning Preferred Stock
Preference Shares Meaning Preferred Stock

Flexibility: A company can publish redeemable preference shares for a fixed period of time. The capital can be reimbursed when it is not required for its business. There is no chance of over-capitalisation. Therefore, capital format is flexible.

Variety – Various kinds of preference shares can be issued based on the investor’s requirement. Participating preference shares or convertible preference shares may be announced to grab various investors.

• Preference shares can be made more popular by giving special advantages, benefits and concessions such as voting rights, right of converting preference shares into equity shares, right of shares in profits and recovery of don’t at a premium.

Preference Shares Vs Ordinary Shares:

• Preference shares usually do not contain voting rights and can be changed into common shares. 

Ordinary shares are usually designed to have only one vote per share. Ordinary shares are also known as common shares. They have a low priority for company assets and receive only dividends based on the judgement of the management of the company. 

• Both preferred shares and ordinary shares give shareholders a partnership in a company. Hence, both of them have different shareholder rights. Preference shares are also known as preferred shares and they also have the advantage of the high advantage or preference on the assets of a company and in case of any downfall, the shareholder can receive a fixed amount of dividend. These shares generally do not have voting rights and can be changed into common shares.

Preference Shares Meaning Preferred Stock
Preference Shares Meaning Preferred Stock

Preference shares dividends have a fixed rate. At the same time, having preference share does not guarantee in payment of dividend.

• In case of bankruptcy or withdrawal, preference shares are paid based on their par value once the payments are done to their outstanding bondholders. Preference shareholders will get the payment before the common shareholders receives. But their exists risk on the back of creditors due to which the investors might need to concentrate on preference shares in companies with extreme powerful or perfect credit rating where there is less chance of any faults. Preference Shares Meaning Preferred Stock.

Equity Shares:

An equity share which is also indicated as ordinary share shows the partial or part of the ownership in which the shareholder holds the maximum entrepreneurial risk connected with the business deal. The partners of equity shares are the members of the company and they also have voting rights.

Equity shares are the main origin of finance of a firm. It is circulated to the general public. Equity share­holders do not benefit any preferential rights when it comes to the repayment of capital and dividend. They do not get fixed rate of dividend. They hold the right to get the leftover income of the company and also but have the authority to manage the affairs of the business and all the shareholders jointly are the owners of the company.

Preference Shares Meaning Preferred Stock
Preference Shares Meaning Preferred Stock

Equity share capital remains forever with the company. It is turned back only when the company is wrapped up.

Equity shareholders have voting rights and they have the right to choose the management of the company.

The rate of dividend on corporation’s capital depends upon the available amount of surplus funds. There is no fixed rate of dividend on equity capital.

Equity shares are very liquid and can be easily traded in the stock market.
When equity shareholders receive higher profits, they get dividends at a higher rate.
The equity shareholders can have two advantages. One is they can get dividend yearly and also, they get appreciation in terms of the investment value.

Equity shares do not have any restrictions with regards to dividend payment.
Equity shareholders are the true owners of the company and they carry the maximum risk.

Equity shares are exchangeable or negotiable. That means partnership of equity shares can be changed or exchanged with or without consideration to another person.
From accounting point of view, equity is the discrepancy between the value of the assets and the value of liabilities. This can be administered with the following statement. “Preference Shares Meaning Preferred Stock

• Equity = assets – liabilities

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