Equity Shares_Dr. S.K Shetty

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Introduction Types of Equity Shares Merits and Demerits Features of Equity Shares Evaluation from the Company’s view point Contents


What are equity shares An equity share is commonly referred to as ordinary share also represents the form of fractional or part ownership in which shareholders, as a fractional owner, undertakes the maximum entrepreneurial risk associated with a business venture. The holders of such shares are members of the company and have voting rights. The company may issue such shares with different voting rights, payment of dividend, ect. Introduction

Types of Equity Shares:

Rights Issue or Right Shares: The issue of new securities to existing shareholders at a ratio to those already held. Bonus Shares: Shares issued by the companies to their shareholders free of cost by capitalization of accumulated reserves from the profits earned in the earlier years. Preferred Stock or Preferred Shares: Owners of these kind of shares are entitled to a fixed dividend and to be paid regularly before dividend can be paid in respect of equity shares. Cumulative Preference Shares: A type of preference shares on which dividend accumulates if remains unpaid. Types of Equity Shares


Cumulative Convertible Preference Shares: A type of preference shares where the dividend payable on the same accumulates, if not paid. After a specified date, these shares will be converted into equity capital of the company. Participating Preference Shares: The right of certain preference shareholders to participate in profit after a specified fixed dividend contracted for is paid. Security Receipts: A receipt or other securities, issued by a securitization company to any qualified institutional buyer pursuant to a scheme, evidencing the purchase by the holder of an undivided right, title or interest in the financial asset involved in securitization. Debentures: Bonds issued by a company bearing a fixed rate of interest usually payable half yearly on specific dates and principal amount repayable on particular date on redemption of the debentures. 2

Merits of Equity Shares :

Company doesn’t need to have the forced obligation to pay dividend to equity shareholders. Equity share is permanent source od funds which facilitate flexibility in usage of funds. The obligations to repay the equity capital arises only the time of liquidation of the company. The shareholders can participate in the management of the company through voting rights. Equity shares can be issued without creating any charge over the assets. Merits of Equity Shares

Demerits of Equity Shares:

Equity shares always associated with the expectations of the investors. Equity shareholders have to bear all the losses at the time of liquidation. When the finance has to be raised for less risky projects, then this is not a good source of raising finance. Investors who have a desire to invest in safe or fixed returns have no attraction of such shares. Demerits of Equity Shares

Features of Equity Shares :

Right to income Right to control Pre-emptive right Right to liquidation Features of Equity Shares

Right to Income:

The equity investors have residual claim to the income of the company. The income left after satisfying the claims of all other investors belongs to the equity shareholders. Equity earnings which are retained in firm tend to increase market value of equity shares and earnings distributed as dividend provide current income to the equity shareholders. Right to Income

Right to Control:

Equity shareholders are owners of the firm. So they can elect the board of directors and have the right to vote on every resolution passed before the company. The board of directors selects the management and management controls the operations of the firm. Hence, equity shareholders indirectly control the operation of the firm. Right to Control

Pre-emptive Right :

This enables existing shareholders to maintain their proportional ownership by purchasing the additional equity shares issued by the company. According to law, existing shareholders have the first priority to purchase additional shares on pro rata basis before the others. Pre-emptive Right

Right in Liquidation:

Equity shareholders have a residual claim over the assets of the firm in the event of liquidation. Claims of all other-debenture holders, secured leaders, unsecured leaders, other creditors and preference shareholders- are prior to the claim of equity shareholders. Right in Liquidation

Evaluations from the view point of Company:

Advantages Permanent capital : this means there is no liability for repayment. No obligation to pay dividend: Equity shares impose no obligation on the company to pay fixed dividend to the equity shareholders. The get dividend if adequate profits are available. No charge on property: The company is able to produce capital without creating charges on its property, which remains free and can be utilized when additional funds are required by the company. Evaluations from the view point of Company


Wide scope of marketability: Equity shares are lower denominations, hence they can be purchased by people of limited income also. High credit worthiness: The equity capital increases the company’s financial base and thus it’s borrowing limit increase. High premium: The company can easily sell equity shares on the premium in times of boom. 2


Cost of equity: The cost of equity is generally high. The rate of return required by equity shareholders is generally higher than rate of return by other investors. Floatation cost: This is the cost of issuing equity share, which is higher than cost of issuing other types of securities. Interference in management: Equity shareholders have voting rights. Hence there may be interference in existing pattern of management. Disadvantages


Speculation: There are higher chances of speculation because it is traded in stock market. Dividend is not tax deductible: Equity shares, dividend is not tax deductible payment. Dilution of control: Sales of equity shares to outside may result in dilution of control of existing shareholders. 2