Every resolution, or crucial corporate action, must be put to the vote by equity shareholders. However, only issues pertaining to preference shares are up for voting by preference shareholders.

Everyone aspires to live a life with multiple sources of income. And some will start investing their actively earned income to achieve that goal in order to generate a sizable quantity of passive income. As investors, we make investments in order to increase our wealth and maximise returns. But multiple ways can be explored to achieve this goal. Numerous tools on the market can help you increase your wealth. Each instrument has a unique specialty; some will help you expand your money quickly, while others will take time to develop. The two types of market instruments that investors invest in are preference shares vs equity shares, which will be covered in this article.

What are Equity Shares?

Equity shares, often referred to as ordinary shares, represent ownership in a company. When an investor holds equity shares, they are essentially becoming a shareholder and, in turn, a part-owner of the company. Equity shareholders have certain rights, such as voting rights in company decisions and the opportunity to receive dividends if the company makes a profit.

Here is a list of different types of equity shares:

• Common Equity Shares: These are the most prevalent type of equity shares. Common shareholders have the right to vote in shareholder meetings and receive dividends, which are usually distributed after the payment of preference shareholders.
• Voting Equity Shares: These shares grant their holders voting rights in company decisions, including the election of the board of directors. They are particularly valuable for those who wish to have a say in how the company is run.
• Non-Voting Equity Shares: In contrast to voting equity shares, non-voting equity shares do not provide any voting rights to their holders. These shares are primarily issued to raise capital while keeping control within the hands of existing shareholders.
• Founders Shares: Founder’s shares are often held by the founders of a company and come with special rights and privileges, allowing them to maintain a significant influence over the company’s operations and decision-making.

What are the Several Features of Equity Shares?

The following characteristics apply to equity shares:

• These shareholders can vote. They can also influence the company’s business decisions.
• They get dividends, but the distribution isn’t guaranteed and could change depending on how well the company is doing.
• The corporation does not issue refunds to equity stockholders. Investors might start investing in either trading the shares or waiting until the company is liquidated in order to recover their money.
• Due to their limited responsibility, equity stockholders are not severely impacted by any losses the company has other than a drop in share value.

Merits and Demerits of Equity Shares 

• Merits: The shareholders are entitled to dividends, bonuses, and a variety of other advantages, and they have a say in important corporate decisions.
• Demerits: Dividends are not guaranteed; whether or not you receive them depends on the company’s choice. They also carry considerable investment risk.

What are Preference Shares?

Preference shares are a type of share that combines features of both equity and debt. They are so named because they hold certain preferences over equity shares in terms of dividend payments and the return on capital. Preference shareholders receive a fixed dividend rate, and they have a higher claim on the company’s assets compared to equity shareholders in the event of liquidation.

Below is a list highlighting the different types of preference shares:

• Cumulative Preference Shares: In the case of cumulative preference shares, any unpaid dividends accumulate and must be paid out to shareholders in the future, even if the company did not generate profits in a particular year.
• Non-Cumulative Preference Shares: Unlike cumulative preference shares, non-cumulative preference shares do not accumulate unpaid dividends. If the company fails to declare dividends in a given year, shareholders of this type receive no compensation for the missed payments.
• Participating Preference Shares: Participating preference shares provide the shareholders with the opportunity to receive additional dividends beyond the fixed rate if the company performs exceptionally well.
• Non-Participating Preference Shares: Non-participating preference shares do not grant shareholders the right to participate in additional profits or dividends beyond their fixed rate.
• Redeemable Shares: Shares redeemable after a specific time are referred to as redeemable preference shares
• Irredeemable preference share: This category of shares applies when shares are not redeemed during the active term
• Convertible shares: Preference shares are converted to convertible preference shares when they can be converted into equity shares at a fixed rate
• Non-convertible shares: Non-Convertible Shares cannot be converted into equity shares.

What are the Several Features of Preference Shares?

The attributes of a preference share are as follows:

• The corporation gives preference to certain shareholder agreement when disbursing dividends or allocating assets during a liquidation.
• The Company may, on certain times, repurchase its preferred stocks.
• These shares are easily convertible into equity shares, either with the Board of Directors’ consent or after a particular date.

Merits and Demerits of Preference Shares 

• Merits: The dividend rate is set. Regardless of the company’s performance, you are entitled for arrears on dividends and receive a set return on investment. Of course, they are less risky in comparison and can be converted into equity shares later.
• Demerits: Shareholders with preference do not have voting privileges. Preference shareholders will only get dividends at the pre-determined rate, even if the rate of dividend increases after the acquisition of shares. This might reduce the potential for generating significant returns on investment.

Key Differences Between Equity Shares and Preference Shares

1. Ownership and Voting Rights:

• Equity Shares: Equity shareholders have ownership rights and voting rights, allowing them to participate in company decisions.
• Preference Shares: Preference shareholders do not typically possess voting rights and have a limited say in company decisions.

2. Dividend Payments:

• Equity Shares: Dividends for equity shareholders are not fixed and may vary depending on the company’s profitability.
• Preference Shares: Preference shareholders receive fixed dividends, which are typically higher than what equity shareholders receive.

3. Risk and Returns:

• Equity Shares: Equity shareholders bear a higher risk as their returns depend on the company’s performance, and they are at the end of the line for asset distribution in case of liquidation.
• Preference Shares: Preference shareholders have lower risk as they receive fixed dividends and have a higher claim on company assets in case of liquidation.

4. Participation in Profits:

• Equity Shares: Equity shareholders have the potential to benefit more from the company’s success, as they can participate in additional profits through capital gains.
• Preference Shares: Preference shareholders do not typically benefit from the company’s increased profitability beyond their fixed dividend rate.

5. Convertibility:

• Equity Shares: Equity shares are not convertible into preference shares.
• Preference Shares: Preference shares are not generally convertible into equity shares.

Things to Know Before Choosing Your Best-Suited Investment Option 

Preference shareholders receive priority privileges, therefore, if you’re one of the investors that prefers a set sum of money as dividend income, you should choose a preference share. You might or might not receive a dividend on equity shares, but with preference shares, you receive your dividend before equity stockholders.

You should be equity shareholders if you consider ownership. Here, you can vote on important company decisions, unlike preference shareholders with no voting rights.

Compared to stock shares, preference shares have a preference for profit and dividends, thus, if you have a low tolerance for risk, we recommend you invest in those.

Equity shares are the part owners having ownership and voting rights in the decisions made by the management of the firm, therefore, if you want to participate as an owner in the management of the company, you need to buy equity shares.

FAQs

1. Are preference shares better than equity shares?

The choice between preference shares and equity shares depends on your investment goals and risk tolerance. Preference shares offer fixed returns and lower risk, making them suitable for conservative investors. Equity shares carry higher risk but offer the potential for higher returns, which may be preferable for those seeking capital appreciation.

2. Which is better preference or equity?

There is no one-size-fits-all answer to this question. The better option between preference and equity shares depends on your financial goals and risk appetite. Preference shares provide stability with fixed dividends, while equity shares offer the potential for higher returns but come with greater risk.

3. Which is more risky equity or preference shares?

Equity shares are generally riskier than preference shares. Equity shareholders bear the brunt of a company's losses and are at the bottom of the priority list in case of liquidation. Preference shareholders have a safer position with fixed dividends and higher priority in asset distribution.

4. Can equity shares be converted into preference shares?

As per Indian corporate laws equity shares cannot be converted into preference shares.

Conclusion : Preference Shares Vs. Equity Shares

Due to their ownership stake in the company, equity shareholders are permitted to participate in management; however, c are not permitted to do so. 

Our financial advisors at Vakilsearch have highlighted the characteristics of preference shares and equity shares as two popular investment products on the market. However, because of their distinct distinctions, the two are favoured by various investors with various financial objectives.

Also, Read:

• Anatomy of a Shareholders’ Agreement
• Company Voluntary Winding Up
• How to File a Late Tax Return and Protect your Refunds?