Investing in the stock market involves understanding the various types of shares available. Among the most common types are equity shares and preference shares. Both represent ownership in a company, but they come with distinct features and benefits. In this blog, we’ll break down the key differences between equity shares and preference shares to help you make informed investment decisions.
Difference between equity shares and preference shares one by one
Equity Shares
Equity shares, also known as common shares, are the most prevalent type of stock issued by companies. Here are the main characteristics of equity shares:
- Ownership Rights: Equity shareholders are the true owners of the company. They have voting rights, allowing them to influence major decisions, such as electing the board of directors and approving mergers.
- Dividends: Dividends on equity shares are not guaranteed and depend on the company’s profitability. If the company does well, shareholders may receive higher dividends; if not, dividends may be low or non-existent.
- Risk and Return: Equity shares are considered high-risk, high-reward investments. The value of equity shares fluctuates based on market conditions, company performance, and other factors. Potential for capital appreciation is significant, but so is the risk of loss.
- Residual Claims: In the event of liquidation, equity shareholders have residual claims on the company’s assets. This means they are paid after all debts and preference shareholders are settled, making their position riskier.
- Market Influence: Equity shares are actively traded on stock exchanges, and their prices are influenced by market demand and supply. Shareholders can sell their equity shares at any time during market hours.
Preference Shares
Preference shares are a different class of ownership with unique features designed to provide more stable returns. Here are the main characteristics of preference shares:
- Dividend Preference: Preference shareholders receive dividends before equity shareholders. These dividends are usually fixed and may be cumulative, meaning unpaid dividends can accumulate and be paid later.
- Limited Voting Rights: Preference shareholders typically do not have voting rights in company decisions, except under special circumstances, such as when dividends are in arrears.
- Lower Risk: Preference shares are considered less risky compared to equity shares. The fixed dividend payment provides a more predictable income stream, making them attractive to conservative investors.
- Priority in Liquidation: In case of company liquidation, preference shareholders have priority over equity shareholders in claiming the company’s assets. They are paid after creditors but before equity shareholders.
- Callable and Convertible Features: Some preference shares can be called (redeemed) by the company after a certain period, or converted into equity shares under specific conditions. These features add flexibility for both the company and the investor.
Key Difference between equity shares and preference shares
| Feature | Equity Shares | Preference Shares |
|---|---|---|
| Ownership Rights | Yes | Limited |
| Voting Rights | Yes | Usually No |
| Dividend | Variable | Fixed |
| Risk Level | Higher | Lower |
| Liquidation Priority | After Preference Shares | Before Equity Shares |
| Market Trading | Actively Traded | Less Actively Traded |
Conclusion
Understanding the difference between equity shares and preference shares is crucial for building a balanced investment portfolio. Equity shares offer higher potential returns with increased risk and voting rights, while preference shares provide stable dividends with lower risk but limited influence on company decisions. By carefully considering these factors, investors can choose the type of shares that best align with their financial goals and risk tolerance.