Last updated on 02.01.2022
We go through several news channels, business channel discussions, and articles on financial blogs that talk about regular stocks. Those are basically equity shares.
But there’s another type of share called preference share that companies issue to raise additional capital for business operations to control its debt to equity ratio.
The debt-to-equity (D/E) ratio is the percentage calculated by dividing a company’s total liabilities by its shareholder equity that denotes between the company’s liabilities and capital. A lower D/E ratio means lower debt and more profitable business.
On the other side, some investors invest in preference shares because the company offers fixed dividends that ensure lower risk.
Let’s talk about what’s difference between equity share and preference share in detail to let you understand which one is suitable for your investment goals.
Difference Between Equity Share And Preference Share
What is Equity Share
Equity share is an ordinary share we talk about in our daily life. The company offers partial ownership in the business to the shareholder of equity shares.
That means you get the voting rights to participate in major business decisions if you are holding equity shares of the company. Voting rights depend on the percentage of shares you hold.
For example, investors like Rakesh Jhunhunwala who take major stakes in a company’s equity shares can participate in the voting for certain company’s decisions.
When a company earns profits, it distributes its profits as dividends to the shareholders. But you’ll receive dividends only if the company is making profits.
If a company’s business is going in loss, you won’t receive any dividends and in case of bankruptcy equity shareholders’ capital is paid at the last (after paying other liabilities and preference shareholders capital).
Types of equity shares
| Equity Share Type | Details |
| Bonus shares | Stocks that a company issues to the existing shareholders free of cost against the increased earnings from company business. Sometimes companies issue bonus shares in place of dividends |
| Right shares | That a company offers its existing shareholders to purchase new shares at a specific price within a particular period before opened to public trading. |
| Voting shares | Most regular shares are voting shares because of your stake in the ownership of the company. |
| Non-voting shares | Sometimes companies can issue shares with the condition of no voting right to shareholders. |
| Sweat equity shares | Companies often compensate their employees for better contributions in work by issuing sweat equity shares. |
Benefits of equity shares
- Voting right in company’s business operations
- Entitled to bonus share benefits
- Existing shareholders can get benefit of getting right shares at discount
Cons of equity shares
- Company is not bound to pay dividends
- Risk of losing money
Also read – How to calculate intrinsic value of a share
What is Preference Share
A company can offer preference shares to get additional capital from the market to sustain its business operations or expansion of new business.
Preference shareholders get a fixed rate of dividends paid to them irrespective of whether the company’s business is profitable or at the loss. That means preference shares are protected from market volatility.
Secondly, if the company has not paid you the previous year’s dividends, they have to pay arrears on priority along with the present year’s dividends to the shareholders.
However, you don’t get any bonuses announced by the company because only equity shareholders are entitled to receive the bonuses.
Another thing that you may miss is voting rights. You also don’t have the voting rights to participate in the business decisions of the company.
Types of preference shares
| Preference Share Type | Details |
| Cumulative Preference Shares | in which if the dividends are not paid to the shareholders, are considered in arrears and are given priority over other dividend payments. |
| Non-cumulative Preference Shares | You are not compensated for unpaid dividends if a company skips the dividend payment in a particular time period. |
| Redeemable Preference Shares | You can redeem or the company can buy back redeemable preference shares in the future. |
| Irredeemable Preference Shares | You can’t redeem these shares in the future unless the company shuts its operations. |
| Convertible Preference Shares | Can be converted into regular equity shares. |
| Non-convertible Preference Shares | Can’t be converted into regular equity shares. |
| Participating Preference Shares | You get a chance to earn higher than the fixed dividend rate if company earnings increase. |
| Non-participating Preference Shares | You only enjoy fixed dividend rates |
Also read – Rakesh Jhunjhunwala latest portfolio
Benefits of preference shares
- Fixed dividends that you get for sure
- Company pays arrears on priority if previous dividends are not paid
- Redeemable to equity shares
- Preference of paying capital amount over equity shares if company bankrupts
Cons of equity shares
- No voting rights
- No access to bonus shares
- Chances of lower returns if company outperforms
Check out- How to calculate the fair value of share
Difference between Equity Share Vs Preference Share (10 Factors)
| Factors | Equity Shares | Preference Shares |
| Description | Ordinary share in which the company offers shareholders partial ownership in the business | A company offers a fixed amount of dividends to shareholders |
| Dividend payout | Shareholders receive dividends if the company is earning profits | Preference shareholders are paid dividends on priority over equity shareholders whether the business is in profit or not. |
| Rate of dividend | Variable as per earnings. | Fixed |
| Bonus shares | Shareholders are entitled to receive bonuses against the shares they own. | No bonuses against existing shareholdings. |
| Repayment of capital | Repaid at the last | Repaid preferably before equity shares. |
| Voting rights | Shareholders get the voting rights to participate in major business decisions | No voting rights. |
| Redemption | Not available | Available |
| Arrears of dividend | Shareholders are not entitled | Shareholders have the right to get previous years’ arrears of dividends along with the current year’s dividends. |
| Share Types | an ordinary stock of a company. | Several types – Cumulative, & non-cumulative Participatory & non-participatory, Convertible, & non-convertible, Redeemable, & Irredeemable |
| Investors Type | Risk-taking investors. | It is suitable for risk-averse investors. |
Also read – Lowest PE ratio stocks in India
Conclusion
You can opt to invest in Equity or Preference shares based on your interest areas and financial goals.
If you have confidence in a company and are inclined to take risks for a long-term investment, then you can buy equity shares which will help you earn better returns because most companies pay increased dividend rates based on their business performance.
But if you want a safer bet, then invest in preference shares where you get a fixed rate of dividends irrespective of how the company’s business performs.