Synopsis

Companies often issue shares to raise capital for operational and strategic
reasons. Shares of public companies trade on regulated stock exchanges,
where investors can place buy and sell orders. Shares are an integral part of
the economy because they are a core component of most investment portfolios.
Investors can own shares directly or indirectly through mutual funds. In a
layman term share is not a sum of money but is the interest of a shareholder
in the company that is measured by a sum of money for the purpose of
liability in first place, and of interest in the second place. The share of a
company can be further divided into two parts, i.e. Equity Share and
Preference Share. Both types of share are the part of share capital but distinct
in nature. Through this article the researcher tried to analyze the distinction
between these two important integral part of share capital.

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 INTRODUCTION

The capital of a company is divided into a number of indivisible units of a

fixed amount. These units are known as ‘share’. By a share in a company is
meant not any sum of money but an interest measured by a sum of money
and made up of diverse rights conferred on its holders by the articles of the
company which constitute a contract between him and the company.1 In
other words we can say that the share represents a bundle or rights and
obligation in the company. The shares in the company are majorly divided
into two parts as per the Indian Companies Act, 2013 i.e Equity and
Preference Share. These two shares are the vital part of the capital of a
company and the company used to raise capital from public by issuing these
shares through prospectus. There are certain distinctions between the
equity and preference shares related to profit distributions, liability and
participation in the affairs of the company. The main reason of difference is
the risk factor involved in the share.

1
Bucha F. Guzdar v. Commissioner of Income Tax, Bombay LR 617 (SC)

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 OBJECTIVES

 To understand the concept of Share.

 To critically analyze the Equity and Preference Shares.

RESEARCH METHODOLOGY

The research involved in this paper is doctrinal and comparative in nature

and the data collection is done from primary as well as secondary data
sources such as Bare Act, Case Laws, journals and papers.

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 CHAPTER 1: SHARES

Share is the part or portion (of something) which is allotted or belongs

to an individual, when distribution is made among a number; also, the
portion or quota which is contributed by an individual. It is a definite
portion of the capital of a company. The word 'share' ordinarily means a part
or definite portion of a thing owned by a number of persons in common. It
contemplates something owned in common by two or more persons and has
reference to that part of the undivided interest which belongs to some of
them.

In Peter's American Delicacy Co. Ltd. v. Health 2, Dixon J. says,

“primarily a share in a company is a piece of property conferring right in
relation to distribution of income and capital.” In Borland's Trustee v. Steel
Brothers & Go.3, Forewell J says, “a share is the interest of shareholder in
the company measured by; a sum of money, for the purpose of liability in
the first place and of interest in the second, but also consisting of a series of
mutual covenants entered into by all the shareholders inter se”.

A share is not a sum of money, but represents an interest measured

by a sum of money and made up of diverse rights contained in the contract
evidenced by the articles of association of company.

1.1 Definition

According to Section 2(84) of the Companies Act, 2013, ‘share’

means a share in the share capital of a company and includes stock.

The capital of a company is divided into a number of small

units. Each unit is called a share. A share is not a sum of money but
is an interest or right to participate in a profit made by the company
or in the assets of the company when it is wound up. A share secures
to its owner (shareholder) certain rights and liabilities (or obligations).

2
(1939) 61 CLR 457
3
(1901) 1 Ch 279

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 A ‘share’ means a share in the capital of the company. It is a tangible
property.

1.2 Nature of Share

As per Section 44 of the Companies Act, 2013, the shares or

debenture or other interest of any member in a company shall be
movable property transferable in the manner provided by the articles
of the company. In India a share is regarded as ‘goods’. Sale of Goods
Act defines as including every kind of moveable property. Hence
shares in a company in India are goods and not mere chose-in-action.

According to Lord M.R. Greene, a man’s movable property is of

two kind viz., Choose-in-possession and Choose-in-action. Choose in
possession means property, which you have in your control and in
your actual physical possession but choose-in-action means property
of which you do not have immediate possession but you have a right
to it, which can be enforced by a legal action. A share in a company is
a chose-in-action i.e. property of which one does not have immediate
possession, but has a right to it, which can be enforced by a legal
action and share certificate is the evidence of it.

As per Lindley L.J. in Re National Bank of Wales4, 'share' in a

company does not denote rights only, it denotes obligations also; and
when a member transfers his share he transfers all his rights and
obligations as | shareholder as from the date of the transfer. He does
not transfer rights to dividends or bonuses already declared, nor does
he transfer liabilities in respect f calls already made; but he transfers
his rights to future payments and his liabilities to future calls.

In S. Viswanathan v. East India Distilleries and Sugar Factories

Ltd.5 the Court states that "A share is undoubtedly movable property.
It is incorporated in its nature, and it consists merely of a bundle of
rights and obligations. Every one of these rights and obligations is

4
(66 LJ Ch 225-26)
5
AIR 1957 Mad. 341

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created by a statute or under statutory instruments or powers which
also define their extent, scope, boundaries and incidents". Sharers are
not 'goods' in the ordinary sense of the word. Shares are a kind of
moveable property which cannot pass from hand to hand like bales of
cotton. The property in these shares belonged to the registered
shareholders and could not be transferred to another except according
to the articles of the company.

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 CHAPTER 2: KINDS OF SHARES

Prior to old Indian Companies Act, 1956, shares were classified into three
kinds:
a. Ordinary Shares,
b. Preference Shares,
c. Deferred Shares
But later on in 1956 and 2013 Act, Shares are classified only into two
categories. As per section 43 of the Indian Companies Act, 2013:
a) Equity Share Capital-
i. With voting rights; or
ii. With differential rights as to dividend voting or otherwise
in accordance with such rules as may be prescribed.
b) Preference Share Capital

2.1 Equity Shares:

As per section 43 of the Indian Companies Act, 2013, Equity
shares are those shares which are not preference shares. These are
also called ‘ordinary shares’. They carry no preferential rights as to
dividend or capital repayment. These shares get dividend after
dividends are paid on preference shares. The rate of dividend on these
shares is not fixed. It is determined every year in the annual general
meeting. Dividend may vary from year to year. It depends on the
fortunes or profits of the company. When the profits are small, these
shares get smaller dividend. When the profits are high, they get higher
divided.
Equity shares are best to persons who wish to take reasonable
risk. The value of share in the market will rise when the company
pays high dividend. So equity shareholders will have chances of
making capital profits. They are also having chances of making capital
loss. Equity shareholders enjoy wide voting rights at the meetings.

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2.1.1 Advantages of Equity Shares:
Advantages of Equity Shares are further classified into two parts:
2.1.1.1 Advantages to Company:
A. Long-tern and Permanent Capital: It is a good source of long-
term finance. A company is not required to pay-back the equity
capital during its life-time and so, it is a permanent sources of
capital.
B. No Fixed Burden: Unlike preference shares, equity shares suppose
no fixed burden on the company's resources, because the dividend
on these shares are subject to availability of profits and the
intention of the board of directors. They may not get the dividend
even when company has profits. Thus they provide a cushion of
safety against unfavorable development
C. Credit worthiness: Issuance of equity share capital creates no
change on the assets of the company. A company can raise further
finance on the security of its fixed assets.
D. Risk Capital: Equity capital is said to be the risk capital. A
company can trade on equity in bad periods on the risk of equity
capital.
E. Dividend Policy: A company may follow an elastic and rational
dividend policy and may create huge reserves for its developmental
programmes.

2.1.1.2 Advantages to Investors:

A. More Income: Equity shareholders are the residual claimant of the

profits after meeting all the fixed commitments. The company may
add to the profits by trading on equity. Thus equity capital may get
dividend at high in boom period.
B. Right to Participate in the Control and Management: Equity
shareholders have voting rights and elect competent persons as
directors to control and manage the affairs of the company.
C. Capital profits: The market value of equity shares fluctuates
directly with the profits of the company and their real value based
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 on the net worth of the assets of the company. an appreciation in
the net worth of the company's assets will increase the market
value of equity shares. It brings capital appreciation in their
investments.
D. An Attraction of Persons having Limited Income: Equity shares
are mostly of lower denomination and persons of limited recourses
can purchase these shares.
E. Other Advantages: It appeals most to the speculators. Their prices
in security market are more fluctuating.

2.1.2 Disadvantages of Equity Shares:

2.1.2.1 Disadvantages to Company:

A. Dilution in control: Each sale of equity shares dilutes the voting

power of the existing equity shareholders and extends the voting or
controlling power to the new shareholders. Equity shares are
transferable and may bring about centralization of power in few
hands. Certain groups of equity shareholders may manipulate
control and management of company by controlling the majority
holdings which may be detrimental to the interest of the company.
B. Trading on equity not possible: If equity shares alone are issued,
the company cannot trade on equity.
C. Over-capitalization: Excessive issue of equity shares may result in
over-capitalization. Dividend per share is low in that condition which
adversely affects the psychology of the investors. It is difficult to
cure.
D. No flexibility in capital structure: Equity shares cannot be paid
back during the lifetime of the company. This characteristic creates
inflexibility in capital structure of the company.
E. High cost: It costs more to finance with equity shares than with
other securities as the selling costs and underwriting commission
are paid at a higher rate on the issue of these shares.

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 F. Speculation: Equity shares of good companies are subject to hectic
speculation in the stock market. Their prices fluctuate frequently
which are not in the interest of the company.

2.1.2.2 Disadvantages to Investors:

A. Uncertain and Irregular Income: The dividend on equity shares is

subject to availability of profits and intention of the Board of
Directors and hence the income is quite irregular and uncertain.
They may get no dividend even three are sufficient profits.
B. Capital loss During Depression Period: During recession or
depression periods, the profits of the company come down and
consequently the rate of dividend also comes down. Due to low rate
of dividend and certain other factors the market value of equity
shares goes down resulting in a capital loss to the investors.
C. Loss on Liquidation: In case, the company goes into liquidation,
equity shareholders are the worst suffers. They are paid in the last
only if any surplus is available after every other claim including the
claim of preference shareholders is settled. It is evident from the
advantages and disadvantages of equity share capital discussed
above that the issue of equity share capital is a must for a company,
yet it should not solely depend on it. In order to make its capital
structure flexible, it should raise funds from other sources also.

2.2 Preference Shares:

Shares which carry preferential rights with regard to the payment of
dividend and repayment of capital and to the return of capital when the
company goes into liquidation are called preference shares.

The rate of dividend payable is fixed. Dividend will be paid first to

Preference shareholders. When a company is wound up, capital will be
refunded first to preference shareholders. Thus preference shareholders
enjoy priority over other classes of shareholders. Preferences
shareholders, however, do not enjoy voting rights except under certain

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 circumstances. They cannot get higher rate of dividend when the
company makes large profits. Preference shares are best suited to those
who are cautious.

2.2.1 Kinds of Preference Shares:

Preference shares can be further classified into these categories:

A. Cumulative Preference Shares: These are the shares on which

dividend goes on accumulating till it is fully paid off. The arrears of
any year's dividend are carried forward as a charge upon the
subsequent year's profits, The Company is bound to pay dividend only
if it has sufficient profits available for distribution. These shares are
entitled to a fixed rate of dividend, whether dividend is declared or
not. If the dividend has not paid in a particular year due inadequate
profits accumulate to be paid during any subsequent year.
In the absence of any clear provision to the contrary, preference
shares are presumed to be cumulative and the accumulation of
dividend can be excluded only by a clear provision in the articles of
association. Preference shareholders cannot compel the directors to
pay dividends, whatever be the amount of accumulation.
B. Non-Cumulative Preference Shares: These shares do not carry any
such additional right of accumulation of dividends. They are entitled
to a fixed percentage of dividends out of profits. They will not get any
dividend if the company makes loss or makes insufficient profits. They
cannot claim arrears of dividend of any year out of the profits of the
subsequent years.
C. Participating Preferential 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 have been
met. The surplus profits are distributed in a certain agreed ratio
between the holders of the participating preferential shares and the
holders of equity shares.

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 The general principle is that preference shares are presumed to
be not participating. The holders of such shares are not entitled to any
share in the distribution of any such surplus, unless there is a clear
provision in the memorandum, or the terms of issue or the articles
conferring upon them the light of participation. This appears from a
consideration of the authorities. The right to participate in the surplus
depends upon the terms of the contract they have made with the
company and there is no presumption that they have the right to
participate unless it is excluded by the articles.
D. Non-Participating Preference Shares: These shares are entitled to
only a fixed rate of dividend and do not share in the surplus profits
which go to the equity shareholders.
E. Convertible Preference Shares: These are the shares which entitle
their holders to convert them into equity shares within a certain
period.
F. Non-Convertible Preference Shares: These are the shares which do
not confer on their holder a right of conversion into equity shares.
G. Redeemable Preference Shares: A company has power to issue
redeemable preference shares. These shares are repayable after a
certain agreed period i.e. these shares can be taken back by the
company from the shareholders after paying them. These shares get
fixed dividends. These can be issued only under certain
circumstances. These are repayable out of money received by fresh
issue of shares or out of accumulated profits. These shares must be
fully paid-up.

2.2.2 Advantages of Preference Shares:

There are several benefits of a preference share from the point of view
of a company which are discussed below:
A. No Legal Obligation for Dividend Payment: There is no
compulsion of payment of preference dividend because non
payment of dividend does not amount to bankruptcy. This dividend

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 is not a fixed liability like the interest on the debt which has to be
paid in all circumstances.
B. Improves Borrowing Capacity: Preference shares become a part of
net worth and therefore reduces debt to equity ratio. This is how
the overall borrowing capacity of the company increases.
C. No Dilution In Control: Issue of preference share does not lead to
dilution in control of existing equity shareholders because the
voting rights are not attached to issue of preference share capital.
The preference shareholders invest their capital with fixed dividend
percentage but they do not get control rights with them.
D. No Charge on Assets: While taking a term loan security needs to
be given to the financial institution in the form of primary security
and collateral security. There are no such requirements and
therefore the company gets the required money and the assets also
remain free of any kind of charge on them.

2.2.3 Disadvantages Of Preference Shares:

Like the other side of a coin there are certain demerits of the
preference shares, such as:
A. Costly Source of Finance: Preference shares are considered a very
costly source of finance which is apparently seen when they are
compared with debt as a source of finance. The interest on debt is
a tax deductible expense whereas the dividend of preference shares
is paid out of the divisible profits of the company i.e. profit after
taxes and all other expenses. For example the dividend on
preference share is 9% and interest rate on debt is 10% with
prevailing tax rate of 50%.
B. Skipping Dividend Disregard Market Image: Skipping of dividend
payment may not harm the company legally but it would always
create a dent on the image of the company. While applying for
some kind of debt or any other kind of finance, the lender would
have this as a major concern. Under such a situation, counting

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 skipping of dividend as an advantage is just a fancy. Practically, a
company cannot afford to take such a risk.
C. Preference in Claims: Preference shareholders enjoy similar
situation like that of an equity shareholders but still gets a
preference in both payment of their fixed dividend and claim on
assets at the time of liquidation

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 CHAPTER 3: COMPARATIVE ANALYSIS BETWEEN EQUITY
SHARES AND PREFERENCE SHARES
Preference Shares and Equity shares can be distinguish on the basis of
these grounds:
1. Nominal value of Share:
The nominal value of preference shares is relatively higher than
equity shares. It is usually Rs. 100 or above but in case of equity
shares, the value of share is relatively lower i.e. Rs. 10 or less.
2. Rate of Dividend:
Preference shares are entitled to a fixed rate of dividend but the
rate of dividend on equity shares depends upon the amount of profit
available and the funds requirements of the company for future
expansion etc.
3. Preference while distributing dividend:
Dividend on the preference shares is paid in preference to the
equity shares whereas the dividend on equity shares is paid only after
the preference dividend has been paid.
4. Payment of Capital:
In case of winding up, preference share holder get preference
over equity share holders with regard to the payment of capital. On
the other side in case of winding up of a company, equity share holder
get payment of capital after the payment of capital to preference
shareholders.
5. Voting rights:
The voting rights of preference shareholders are restricted. A
preference shareholder can vote only when his special rights as a
preference shareholder are being varied, or on any resolution for the
winding up of the company or for the repayment or reduction of its
equity or preference share capital or their dividend has not been paid
for a period of two years or more [section 47(2)]. On the other side an
equity shareholder can vote on all matters affecting the company.

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6. Issuing Of Bonus Share:
No bonus shares/right shares are issued to preference share
holders. But a company may issue rights shares or bonus shares to
the company’s existing equity shareholders.
7. Redeemable Status of Share:
Redeemable preference shares may be redeemed by the
company whereas the Equity shares cannot be redeemed except under
a scheme involving reduction of capital or buy back of its own shares.

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 CONCLUSION

After discussing different aspects of equity and preference shares we

can conclude that the preference shareholders are those persons who do not
participate in the affairs of a company except when there is any question
regarding to the winding up of company or the matter is related to their
dividend. They enjoy the preferential rights over the dividend at the fixed
rate. On the other side, equity shareholders are the active shareholders of a
company; they participate in each and every meeting of a company. Equity
shares are quit risky in nature because no fixed rate of interest in given on
these shares.
Preference shares are equity shares are part of the share capital of a
company and the issuing procedure of these shares are same in nature.

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 REFERENCES
BOOKS:
 Singh, Avtar (2008) ‘Company Law’ Eastern Book Company, Lucknow
 Mujumdar, A.K. and, Kapoor, G,K (2014) ‘Company Law and Practice’,
Taxmann, New Delhi
 Mankekar, Prachi (2014) ‘Insight into the New Company Law’ Lexis
Nexis, Nagpur
 Ghosh, T.P. (2013) ‘Companies Act 2013’ Taxman Publication, New
Delhi.
JOURNALS:
 Lee Beng Tat, (1992) ‘’ Sing. J. Legal Stud. 127 1992
 Whitehead, Isabelle (2014) ‘Preference Shares and its History’ 36
Sydney L. Rev. 369 2014
 Baxi, R. ‘The Rights of Preference Share Holder’ 9 U.W. Austl. L. Rev.
146 1969-1970

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