Equity Shares vs Preference Shares: Which is Better to Invest?

What are Equity Shares?

What are Preference Shares?

Key Differences Between Equity Shares vs Preference Shares

Equity and preference shares are two major company shares with distinct features. Here's a detailed comparison table highlighting the difference between equity and preference shares:

Aspect Equity Shares Preference Shares
Meaning Equity shares represent company ownership and give shareholders voting rights. Preference shares provide fixed dividends and priority during liquidation. It does not grant ownership rights.
Return Returns on equity shares depend on company profits and market performance. Thus leading to higher potential gains. Preference shares offer stable and fixed returns, regardless of company profits.
Dividend Payout Equity shareholders receive dividends after preference shareholders, based on available profits. Preference shareholders receive dividends before equity holders at a fixed rate.
Participation in Management Decisions Equity shareholders can influence company policies and management decisions through voting. Preference shareholders cannot take part in management decisions.
Dividend Rate The dividend rate is not fixed. It varies according to the company's financial performance. Preference shares carry a predetermined dividend rate, offering consistent income.
Redemption The company cannot redeem equity shares. Preference shares are redeemable after a specified period or as per the company's terms.
Capital Repayment Equity shareholders receive capital repayment after preference shareholders during liquidation. Preference shareholders have the right to capital repayment before equity holders.
Convertibility Equity shares are non-convertible into preference shares. Some preference shares are convertible into equity shares after a certain period.
Voting Rights Equity shareholders have voting rights on major company decisions. Preference shareholders generally do not have voting rights unless dividends are unpaid.
Arrears of Dividend Equity shareholders are not entitled to claim unpaid dividends. Cumulative preference shareholders can claim arrears of dividends in future periods.
Bonus Shares Equity shareholders receive bonus shares issued by the company. Preference shareholders are not eligible for bonus shares.
Investment Equity shares are suitable for investors seeking higher returns with market-linked risks. Preference shares are suitable for conservative investors seeking stable income.
Capitalisation Equity shares help in raising permanent capital through public issuance. Preference shares improve the company's capital structure without increasing debt.
Financing Equity shares raise long-term capital without creating debt. Preference shares raise flexible capital with fixed obligations.
Suitability Equity shares are ideal for long-term capital growth and wealth creation. Preference shares are suitable for fixed income and capital protection.
Mandate Equity shares have no fixed mandate for dividend payments. Company agreements and shareholder terms govern preference shares.
Liquidation Equity shareholders are the last to receive payment during company liquidation. Preference shareholders receive payment before equity holders in case of liquidation.
Bankruptcy Equity shareholders receive payments after preference shareholders in the case of bankruptcy. Preference shareholders get preference before equity holders during bankruptcy.
Liquidity Equity shares are more liquid and traded on stock exchanges. Preference shares are less liquid due to limited trading options.

Types of Equity Shares

Companies offer various types of equity shares to cater to diverse investor preferences. Below is an overview of seven types of equity shares:

Type of Equity Share Description
Authorised Share Capital This is the highest capital value that a company can issue. It must be per the law and stated in the company's constitutional documents. 
Issued Share Capital It is the authorised capital a company has made available to investors. This value represents the entire value of the shares that shareholders currently hold. 
Subscribed Share Capital Subscribed share capital is the part of issued capital that investors have committed to purchasing. It indicates the level of shareholder commitment to buying shares 
Paid-Up Capital Paid-up capital is the total value shareholders have paid for the shares they have subscribed to. It represents the actual capital received by the company. 
Bonus Shares Bonus shares are shares issued to existing shareholders at no cost. Companies use free reserves or retained earnings to distribute bonus shares. 
Rights Shares Rights shares are generally for existing shareholders. They receive it at a discounted price before the company offers it to the public. 
Sweat Equity Shares Companies issue sweat equity shares to employees or directors as a reward. They offer it at a discount or without payment to recognise employee efforts. 

Types of Preference Shares

Preference shares have the characteristics of debt and equity. This provides investors with a fixed income that may appreciate over time. They can redeem it for a profit on their shares. There are eight key types of preference shares for investors seeking to invest. The types include:

Type of Preference Share Description
Convertible Preference Shares Convertible preference shares let investors change their shares into common shares. This happens after a set period and at a fixed rate. If the value of shares increases and the investor converts those shares at a preset value, he can get a profit.
Non-convertible Preference Shares These shares come without the right to convert into common shares. In a non-convertible preferred share, the investor will receive fixed dividend payments. Yet, he will not receive equity appreciation of the common shares. 
Cumulative Preference Shares Cumulative preference shares allow shareholders to accumulate unpaid dividends. These preference shares ensure the payment of unpaid dividends from previous periods. 
Non-cumulative Preference Shares Non-cumulative preference shares do not allow the shareholder to accumulate unpaid dividends. If a company does not pay dividends in a year, the shareholders will not get them later. 
Redeemable Preference Shares Companies issue these shares with a predetermined redemption date. They can also issue them at the company's discretion after a certain period. The company must repurchase these shares at a specific price. 
Non-redeemable Preference Shares Non-redeemable preference shares, or perpetual preference shares, do not have a redemption date. They will remain outstanding unless the company liquidates or repurchases them. 
Participating Preference Shares These shares grant shareholders the right to receive extra dividends. This is beyond the fixed percentage. After paying dividends to common shareholders, participating shareholders may receive extra dividends. 
Non-participating Preference Shares Non-participating preference shares only entitle the shareholder to fixed dividend payments. They do not receive extra dividends based on the company's exceeded profit earnings.

Benefits of Equity Shares and Preference Shares

Equity and preference shares are two main types of investments. Each offers different benefits to investors. The table below compares the key advantages of both:

Benefits Equity Shares Preference Shares
Potential for Capital Appreciation If the company's value increases over time, equity shareholders can experience capital gains. Preference shares offer limited capital appreciation. However, convertible preference shares allow for the conversion to equity shares. Thus benefiting from future growth.
Dividend Income Equity share dividends always differ, depending on the company's profit and dividend policy. During profitable periods, they can generate hefty incomes. Fixed dividends belong to preference shareholders. This does not change regardless of whether profits vary over time. This creates an ongoing income for preference holders.
Voting Rights Equity shareholders generally have voting rights. This allows them to vote on essential company affairs, including the board of directors' decisions. Generally, preference shareholders do not have voting rights. This is because they invest for income rather than any shareholder governance role.
Liquidity Equity shares offer better liquidity as they are often traded on stock exchanges. Thus allowing for easy buying and selling of shares. Preference shares may be less liquid due to lower trade volumes. Thus, making buying and selling these shares more difficult.
Potential Tax Advantages Depending on jurisdiction, dividends from equity shares may qualify for favourable tax treatment. This enhances after-tax returns. In some cases, dividends from preference shares may receive favourable tax treatment. This varies by jurisdiction and specific tax laws.
Risk Exposure Equity shareholders face a high risk because they receive irregular dividends. Also, they get a lower priority in receiving the assets in case of liquidation. Yet, the prospect of a higher return is also realised. Preference shareholders have a reduced risk profile based on fixed dividends. They have a stronger claim to receive investment in the event of a company's liquidation. This limits the potential for a significant capital gain.

Similarities Between Equity Shares and Preference Shares

Equity and preference shares are two main categories of company shares and offer distinct advantages. Although differing, both have certain similarities. Knowing these similarities can assist an investor in making a sound financial decision. Key similarities include:

1. Ownership in the Company

Both equity and preference shareholders have ownership. This is because they have ownership of shares in the company.

2. Regulated by Laws of the Company

Both equity and preference shares are regulated according to the company's laws. This creates transparency.

3. Tradability in the Stock Market

Individuals can buy and sell shares on the stock market.

4. Capital Loss

Depending on the company's performance, both may sustain a loss on their investment.

5. Right to Transfer Ownership

In a fair market, it is possible to transfer ownership of equity or preference shares to other buyers in the market.

Equity Shares or Preference Shares - Which is a Better Investment Option?

FAQs about Equity Shares vs Preference Shares

What are the differences between equity shares and preference shares?

up-arrow
Equity shares entail rights of ownership, voting rights, and variable dividends. In contrast, preference shares entail fixed dividends and priority over liquidation. They do not have any voting rights.

Which shares are appropriate for long-term investment: equity or preference shares?

up-arrow
Equity shares are most suitable for long-term investment. This is because of their ability to appreciate their capital value. Preference shares are most suitable for conservative investors who want a fixed return.

Are preference shareholders paid dividends even if the company is not profitable?

up-arrow
Yes, preference shareholders receive fixed dividends irrespective of the profits of the company. The unpaid dividends are not carried forward to future years in the case of non-cumulative preference shares.

Are preference shares convertible into equity shares?

up-arrow
Yes, one can convert their convertible preference shares into equity shares after a specified period.

Are the equity shareholders paid first in case of company liquidation?

up-arrow
No, the preference shareholders get priority first in case of liquidation. The equity shareholders receive payment only after paying the shareholders' liabilities and preferences.

What are the risks of investing in equity shares?

up-arrow
Equity shares involve market risk. Their value fluctuates based on company performance, industry trends, and economic conditions. Additionally, dividends are not guaranteed.

Are preference shares traded on stock exchanges?

up-arrow
While you can trade some preference shares on stock exchanges, they are less liquid than equity shares. Hence, it becomes challenging to sell or buy them within a short period.

Can companies issue both equity and preference shares?

up-arrow
Yes, generally, the companies issue both types of shares. This is to offset their capital structure and to entice various categories of investors.

How are preference share dividends calculated?

up-arrow
Preference share dividends are constant. They are typically given as a percentage of the face value of the share (e.g., 8% preference shares will pay 8% of the face value of the share every year).

Which shares would be most suitable for risk-averse investors?

up-arrow
Preference shares are appropriate for risk-conscious investors. They offer fixed income and are repaid before equity shareholders in the event of liquidation.

Do equity shareholders have the right to take part in the company's decisions?

up-arrow
Yes, equity shareholders can vote on major decisions of the company. This includes electing the board of directors and authorising the major corporate policies.

Do preference shareholders get bonus shares?

up-arrow
No, preference shareholders are not eligible to get bonus shares. Bonus shares are usually given only to equity shareholders.

Are the taxation of dividends on equity and preference shares different?

up-arrow
In most cases, dividends on equity shares can be eligible for lower tax rates. Whereas, preference share dividends might be subject to normal income taxation.

Can a firm re-purchase its preference shares?

up-arrow
Yes, firms can re-purchase redeemable preference shares after a specific time, as agreed in the terms of the issue. However, non-redeemable preference shares remain outstanding forever unless otherwise stated.

Which is riskier: equity shares vs preference shares?

up-arrow
Generally, equity shares are riskier than preference shares. This is due to more value fluctuations, market conditions, and the company's performance.

What are the advantages of preference shares over equity shares?

up-arrow
Preference Shares offer various advantages over equity shares. This includes priority in dividend payments, lower risks, and fixed dividends.

Which is better, equity shares or preference shares?

up-arrow
The choice between equity and preference shares depends on individual goals and preferences. Equity shares are better for investors seeking higher returns and willing to take on more risk. Preference shares suit risk-averse investors who prefer stable income with lower market volatility.

Which share has a higher claim on assets during liquidation, equity or preference shares?

up-arrow
During a company's liquidation, preference shares have a higher claim on assets than equity shares.

Disclaimer

up-arrow

  • This is an informative article provided on 'as is' basis for awareness purpose only and not intended as a professional advice. The content of the article is derived from various open sources across the Internet. Digit Life Insurance is not promoting or recommending any aspect in the article or its correctness. Please verify the information and your requirement before taking any decisions.
  • All the figures reflected in the article are for illustrative purposes. The premium for Coverage that one buys depends on various factors including customer requirements, eligibility, age, demography, insurance provider, product, coverage amount, term and other factors
  • Tax Benefits, if applicable depend on the Tax Regime opted by the individual and the applicable tax provision. Please consult your Tax consultant before making any decision.

Latest News

Currently there are no news to show.

Read More

Renew & Download Policy Document, Check Challan, Credit Score, PUC & more

Anytime, Anywhere. Only on Digit App!

google-play-icon

Rated App

app-store-icon

Rated App