1. INTRODUCTION:

A Private Limited Company in India can raise the funds through various sources using different types of instruments. The widely used instruments in fund raising are Equity Shares and Preference Shares. Convertible notes are emerging concept in India but the same is allowed only to Startups recognized by Govt of India and upto Rs. 25,00,000 only. Equity and Preference Shares are described below:

II. SHARES:

> MEANING OF SHARES:

 Section 2(84) of the Companies Act, 2013 defines Share. As per the said section Share means Share in the Share Capital of the Company.

There are 2 types in Shares:

> EQUITY SHARES:

  • Shares other than preference shares are Equity Shares.
  • Equity Shares are also known as ordinary shares
  • The holders of Equity Shares are members of the Company and have the voting rights
  • Equity Shares are the vital instrument to raise the Long Term Capital
  • Through their right to vote, these shareholders have a right to participate in the management of the company

Features:

 The main features of Equity Shares are

  • They are permanent in nature
  • Equity shareholders are the actual owners of the company and they bear the highest risk
  • Equity shareholders do not get fixed rate of dividend
  • Equity shareholders have the right to control the affairs of the company

Advantages:

 i. Advantages from the Shareholders’ Point of View:

  •  In case of high profit, they get dividend at higher rate
  • Equity shareholders have the right to control the management of the company
  • The equity shareholders get benefit in two ways, yearly dividend and appreciation in the value of their investment

ii. Advantages from the Company’s Point of View: 

  • They are a permanent source of capital and as such; do not involve any repayment liability
  • They do not have any obligation regarding payment of dividend
  • Larger equity capital base increases the creditworthiness of the company among the creditors and investors

Disadvantages: 

i. Disadvantages from the Shareholders’ Point of View:

  • Equity shareholders get dividend only if there remains any profit after paying debenture interest, tax and preference dividend
  • Equity shareholders bear the highest degree of risk of the company
  • Market price of equity shares fluctuate very widely which, in most occasions, erode the value of investment
  • Issue of fresh shares reduces the earnings of existing shareholders

ii. Disadvantage from the Company’s Point of View:  

  • Cost of equity is the highest among all the sources of finance
  • Payment of dividend on equity shares is not tax deductible expenditure
  • Mainly in case of fundraising, the control of management may change

> PREFERENCE SHARES

  • The term preference shares mean and includes that part of the share capital the holders of which have a preferential right overpayment of dividend (fixed amount or rate) and repayment of share capital in the event of winding up of the company
  • Preference shareholders generally do not enjoy any voting rights

Advantages:

 i. Advantages from the Shareholders’ Point of View

  • Fixed regular income
  • The earnings per share of existing preference shareholders are not diluted if fresh preference shares are issued
  • The preference shareholders possess the preference rights of the repayment of their capital as a result of which there are less capital losses
  • Preference shareholders possess proper security in case of their shares in cases when the company fails to generate profits
  • When it comes to payment of dividend and repayment of capital, preference shareholders enjoy preferential rights

ii. Advantages from the Company’s Point of View

  •  The preference shareholders do not possess the voting rights in the personal matters of the company. There is thus no interference in general by the preference shareholders.
  • The dividends to be paid to the preference shareholders are fixed as compared to the equity shareholders. The company can thus maximize the profits that are available on the part of preference shareholders
  • By means of issuing redeemable preference shares, flexibility in the company’s capital structure can be maintained because redeemable preference shares can be redeemed under the terms of issue

Disadvantages:

i. Disadvantages from the Shareholders’ Point of View:

  • Absence of voting rights
  • Absence of guarantee over assets
  • There is a fixed income that is generated for the preference shareholders. In cases where the company generates exceptional profits, these are by no means shared with the preference shareholders

ii. Disadvantage from the Company’s Point of View:

  • The Company has to pay higher rates of dividends to the preference shareholders as compared to the common shareholders in case of less profit
  • Because of the very reason that preference shareholders have preferential rights over the company assets in case of winding up of the company, dilution of equity shareholders claim over the assets take place
  • In case of preference shares, the credit worthiness of a company is definitely reduced because preference shareholders possess the right over the personal assets of the company
  • Because most of the preference shares issued are cumulative, the financial burden on the part of the company increases vehemently
  • Preference dividend is not tax deductible and hence it is costlier than a debenture

Types of Preference Shares:      

i. Redeemable Preference Shares:

Redeemable preference shares are those shares which are redeemed or repaid after the expiry of a stipulated period.

ii. Cumulative Preference Shares 

Preference dividend is payable if the company earns adequate profit. However, cumulative preference shares carry additional features which allow the preference shareholders to claim unpaid dividends of the years in which dividend could not be paid due to insufficient profit.

iii. Non-cumulative Preference Shares 

The holders of non-cumulative preference shares will get preference dividend if the company earns sufficient profit but they do not have the right to claim unpaid dividend which could not be paid due to insufficient profit.

iv. Participating Preference Shares

 Participating preference shareholders are entitled to share the surplus profit of the company in addition to preference dividend.

v. Non-participating Preference Shares  

Non-participating preference shareholders are not entitled to share surplus profit and surplus assets like participating preference shareholders.

vi. Convertible Preference Shares

The holders of convertible preference shares are given an option to convert whole or part of their holding into equity shares after a specific period of time.

vii. Non-convertible Preference Shares  

The holders of non-convertible preference shares do not have the option to convert their holding into equity shares i.e. they remain as preference share till their redemption.

III. CONVERTIBLE NOTE

> MEANING

 “convertible note” means an instrument evidencing receipt of money initially as a debt, which is repayable at the option of the holder, or which is convertible into such number of equity shares of the start-up company upon occurrence of specified events and as per the other terms and conditions agreed to and indicated in the instrument.

A Private Company can issue convertible notes to the investors only up to Rs. 25,00,000 if the Company is a Startup recognized by the Government of India

Disclaimer:

The Views expressed are solely of the Author and the contents of this article is to share the Knowledge on subject matter. Expert advice should be sought for your specific circumstances.

Author Bio

Qualification: CS
Company: N/A
Location: Bangalore, Karnataka, IN
Member Since: 26 Feb 2019 | Total Posts: 13
I am an Associate Member of Institute of Companies Secretaries of India and a Practicing Professional having office in Bangalore. I have experience in legal and Company Secretarial matters, Trade Mark law, IBC and other allied laws. View Full Profile

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