Nature and Classes of Shares

Introduction: What are Shares?

Shares are the units of distribution into which the total capital of a company is divided. For example, if the total capital of a company is Rs 10 lakh and this capital is divided into 10,000 units of Rs 100 each, then each unit of Rs 100 will be considered a share of the company.

The owners of shares are known as shareholders. Therefore, the shareholders pay for the capital and hence they enjoy ownership of the company. Owners of shares of a company are called shareholders of the company.

The Articles of Association of a company contain important facts about the nature and classes of shares, such as shares units and share capital. There are usually two types of shares that a company can allot, according to the companies act of 2013. Their natures, rights, and obligations are different from each other.

There are mainly two types of shares-equity and preference shares. Preference shares get preference in receiving dividends and in the case of liquidation but they do not have voting rights. Equity shareholders may not get dividends in case the board of directors decides no dividends to be distributed among the shareholders.

Preference Shares

Preference shares, as the name suggests, have preference over two matters in comparison to the other type of shares. These two preferences include the following.

• The preference shareholders get preference while the dividends of the shares are distributed. The preference shareholders must be paid first before the equity shareholders when dividends are distributed. These dividends may have a fixed or nominal rate, but the preference shareholders must be paid irrespective of the profit or loss of the company.

• Preference shareholders are also paid before the equity shareholders in the case of the liquidation of a company. In the case of liquidation, if the capital obtained is limited, then the preference shareholders will get the benefit first, before equity shareholders.

Apart from the above-mentioned factors, preference shareholders are similar to equity shareholders except for the fact that preference shareholders do not have any voting rights on the matters of the company which equity shareholders do have.

Preference shares can be of various types, such as redeemable and non-redeemable. They may also be participating in which case they can participate in increased profits after a dividend is paid or non-participating. Preference shares can also be cumulative where arrears will accumulate or non-cumulative as well.

Equity Shares

Equity shares are shares that provide just equity or ownership of the company to the shareholder. Unlike preference shares, equity shares do not enjoy preference in terms of dividend payment and at the time of liquidation of the company.

There is no fixed dividend that must be paid to equity shareholders by a firm. It depends on the board of directors of a company how much of the dividend should be paid to the equity shareholders. If the company does not pay any dividend for a year, equity shareholders lose their dividend for that particular year. Unlike preference shares again, the dividend for equity shares does not accumulate.

Equity shareholders enjoy voting rights in matters of the company. Usually, voting rights are proportional to the ownership of the company. In that sense, one share equals one vote. Companies cannot issue non-voting-power equity shares because that is illegal in nature.

Issue of Shares

The Companies Act 2013 provides guidelines regarding the issue of shares. There are certain rules and regulations that a company must follow for the issuance of shares. For example, the money to be collected from potential shareholders can be collected in installments too. The following steps are included in the process of the issuing of shares.

Issue of Prospectus

Before a company issues shares to potential shareholders, it must invite them by publishing a prospectus. The prospectus of a company must contain all the details about it, which includes the previous years’ balance sheets, the financial structure of the company, and the profit and loss statements of the company.

The prospectus must also provide the pattern of expenditure of the capital collected via the issuance of shares. As the prospectus is meant for investors, the company must show how the capital will be used in order to attract them to subscribe to the shares. If no prospectus is issued, the company must provide a document in lieu of the prospectus.

However, according to the Companies Act 2013, in no way should a company engage in issuing shares without providing a prospectus or a company document. It is illegal in nature and may invite legal proceedings.

Receipt of Application

Once the prospective is issued, the potential shareholders can fill out the required form and pay the necessary amount of money to the banks mentioned in the prospectus. The money that must be deposited is proportional to the number of shares for which the application is made.

The application process for application of shareholding should last a maximum of 120 days. If the minimum threshold of capital is not accumulated in 120 days, the money of the applicants should be returned to them within 130 days of the issue of applications. In case of less than the required subscription, the issuance of shares stands canceled.

Allotment of Shares

On achievement of the minimum subscription required, the shares can then be allotted. Usually, most of the shares are oversubscribed so the shares are distributed on a pro-rata basis. The company issues letters of allotment and a formal contract is formed between the company and the shareholder. Depending on the nature of the shares, the allotted shares may be preference or equity shares. Usually, the subscribers are informed about the nature of shares through the letter of allotment.

Key Takeaways

• Shares are the units of distribution into which the total capital of a company is divided.

• The owners of shares are known as shareholders. Therefore, the shareholders pay for the capital and hence they enjoy ownership of the company.

• There are usually two types of shares that a company can allot, according to the companies act of 2013- equity and preference shares.

• Preference shareholders get preference in receiving dividends and in the case of liquidation of a company.

• Equity shareholders do not get preference in getting dividends and the distribution of profits for equity shares is dependent on the decision of the board of directors of the company.

• Preference shareholders do not have voting rights.

Conclusion

It is important to know about the two types of shares because they have different natures of dividend payment and ownership. Knowing if your share is preference or equity may help you claim dividends in certain cases. That is why all potential investors must learn about the nature and classes of shares.

FAQs

Qns 1. What is meant by shares of a company?

Ans. Shares are the units of distribution into which the total capital of a company is divided.

Qns 2. How many types of shares are there? What are they called?

Ans. Depending on the nature of shares, there are two types of shares - equity and preference shares.

Qns 3. What are the preferences the preference shareholders get?

Ans. Preference shareholders get dividends even if the company makes losses and they are entitled to benefits first during the liquidation of a company.