Preference shares are those which carry preferential rights as to the payment of dividend at a fixed rate and as to the repayment of capital. Thus, preference shareholders enjoy the following two preferential rights over the equity shareholders:

(i)    They are entitled to receive a fixed rate of dividend out of the net profits of the company prior to declaration of dividend on equity shares.

(ii)    They get priority over the equity shareholders regarding return of capital in case of winding up of the company.

Features of Preference Shares. besides the above two preferential rights (features), the preference shares may carry the following additional features:

(i)    They don’t carry the voting rights as are enjoyed by the equity shareholders such as election of directors, declaration of dividend, etc. However, preference shareholders have a right to vote on any resolution affecting their rights. Thus, they have a right to vote on any resolution affecting their rights. Thus, they have a right to vote on any resolution of winding up the company, or reduction of its share capital or buy of equity shares.

(ii)    If preference shares are cumulative and dividend is not paid in a particular year, then the dividend will be carried forward to the next year.

(iii)    If preference shares are redeemable, they will be retired at the end of their term.

Preference shares may be classified as follows:

(i)    Cumulative and Non-cumulative Preference Shares. The holders of cumulative preference shares are entitled to arrears of dividend on their shares to be paid out of the profit of subsequent years, if in any year the dividend on them cannot be paid. If amine particular year, they are paid such arrears in the next year before any dividend can be distributed among the equity shareholders. But the dividend on non-cumulative shares does not accumulative if the dividend is not paid in any year.

(ii)    Convertible and Non-convertible Preference Shares. If the preference shareholders are given a right to convert their shares into equity shares within a given period of time, such shares will be known as convertible preference shares. The preference shares which cannot be concerted into equality shares are known as non-convertible preference shares.

(iii)    Redeemable and Irredeemable Preference Shares. Redeemable preference shares are those which, in accordance with the terms of their issue will be repaid on or after a certain date. The presence shares which cannot be redeemed during the life time of the company are known as irritable presence shares.

(iv)    Participating and Non-P(a) anticipating Shares. In addition to the two basic preferential rights, the participating shares may be carry either or both the following rights :

(a)    a right to participate in the surplus profits left after paying dividend to the equity shareholders; and

(b)    a right to participate in the surplus assets lift after the repayment of  capital to the equity shareholders on the wading up of the company.

But non-participating share don’t have these additional rights.

Merits of Preference Shares. The issue fo preference shares has the following benefits.:

(i)    The preference shares attract funds form those investors who prefer safety of their investments and a fixed rate of return on their investments. This helps to enlarge the sources of funds for the company

(ii)    Preference shareholders are entitled to a fixed rate of dividend which enables the equity shareholders to get higher dividend.

(iii)    Preference share do not impose heavy burden on the company because the carry a fixed rate of divided.

(iv)    The management can retain control over the company by issuing preference shares to outsiders because the preference shareholders have only restricted voting rights.

(v)    By issuing preference shares, a company can raise finance for a long-term without creating any charge over its assets.

Demerits of Preference Shares. There are certain limitations of raising funds by issuing presences shares. These include:

(i)    The investors may not like preference shares as they have restricted voting rights only.

(ii)    Because of the issue of the preference shares, the rights of equity shareholders over the assets of the company are diluted.

(iii)    Issue of these shares restricts the flexibility of the company in certain cases.

(iv)    The existence of preference shares may affect the credit-worthiness of the company.

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