Preference Shares

We have heard of different types of shares and one of the types is Preference Shares. What are preference shares? As the name suggests, it has preference over the other type of shares. Therefore equity shareholders are divided into 2 types; Ordinary shareholders and preferred shareholders.

When does this preference come into picture, it is usually in 2 situations; once when dividends are paid and secondly when the company goes into liquidation. Usually there is a percentage attached to these types of shares and this percentage is the dividend to be paid on these shares.

With the economy down and corporations in need of funds, one of the options for corporations with a win-win situation is to go for issue of preference shares. One of the problems with preference shares is, they are not liquid.

Some of the differences between preference shares and ordinary shares are
- Preference shares may be listed
- Preference shares usually has a higher divided rate
- Preference share holders are always paid dividends
- In case of liquidation Preference shareholders have preference over ordinary shareholders
- Preference shares are usually for a fixed period, like fixed deposits.

Usually there are 4 types of Preference Shares; Cumulative, non-cumulative, participating and convertible. The rest would just be a combination of these. Let us take a look at each of them.

Cumulative Preference Shares: Now cumulative means collect. So whenever a company does not pay dividends, they start accumulating and these would need to be paid before dividends are paid to ordinary share holders. In the year dividends are declared first the preferred shareholders, along with the accumulated dividend needs to be paid.

Non-cumulative Preference Shares: In this type of shares, if dividends are not declared for a particular year, they lapse.

Participating Preference Shares: In this type of preference shares in addition to normal dividend, it allows for additional dividend depending on certain circumstances viz. achieving a certain target, increase in dividend to ordinary shareholders, etc. In some cases a formula is associated for the additional dividend.

Convertible Preference Shares: These Preference shares can be converted to specified number of ordinary shares.