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Difference between Preference Shares and Preferential Issue

Difference between Preference Shares and Preferential Issue
Difference between Preference Shares and Preferential Issue

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  Posted on October 27, 2021

Difference between Preference Shares and Preferential Issue

Preference shares are also known as preferred stock and are a shareholding in the company’s stock for which preference dividend can be earned, before the dividend on equity stocks is being issued to the shareholders of such equity stock. In case a company goes into liquidation, the preference shareholders will be entitled to be paid from the assets of the company before the equity shareholders.

Most of the preference shares holding have a fixed dividend, unlike equity shares. Coming to the voting rights the same would not be enjoyed by the preference holders like the equity shareholders of the company. These are generally classified as the following:

Cumulative Preference Shares,

Non-Cumulative Preference Shares,

Participating Preference Shares, and

Convertible Preference Shares

Let’s understand each of the above in detail:

Cumulative Preference Shares

Cumulative preference shares can be understood as the one which requires the company to pay shareholders all dividends including the ones which if any were omitted during the past years or several years, even before the equity shareholders are paid any dividend thereof. The payment of dividends on cumulative preference shares is guaranteed but would necessarily not be paid on the date they are due on an immediate basis.

Non-Cumulative Preference Shares

At the same time in this type of preference shares, the omitted or any unpaid dividends of past years would not be paid. Hence, it is completely under the company’s discretion to make decisions regarding the payment and non-payment of any such unpaid or omitted dividends of past years to these preference shareholders.

Participating Preference Shares

In this type of preference shares, the shareholders will be entitled to dividend pay-out in an amount equal to the generally specified rate of preferred dividends plus an additional dividend which will be based on a condition that is pre-determined. Such additional dividend shall be paid or the preference shareholders holding participating preference shares shall become entitled to the same if dividends received by common or equity shareholders are greater than a predetermined per-share amount.

Convertible Preference Shares

Here the shareholders can convert their preference shares into a defined number of equity shares. This can generally be done after a definite pre-established time period. In the case of convertible preference shares, these shares are exchanged under the request of the shareholder. Companies also hold provisions on such shares which would allow the issuer to force such issue or conversion. And the value of this shall be determined ultimately based on the performance of the equity shares of the company.

Preferential Issue

Preferential Issue of shares can be understood as the procedure of issuing the bulk number of fresh shares to a specific group of individuals. This will include venture capitalists, other companies, or any other persons for the requirement of raising funds. And it is otherwise referred to as preferential allotment of shares.

Hence, a preferential issue or allotment is the issue of shares or convertible securities by listed or unlisted or public or such other companies to a selected group of investors but at the same time is not a rights issue or public issue. The rights issue is nothing but the rights given to existing shareholders to purchase additional shares while the public issue is the method used to raise share capital by selling securities to the public.

As per the Companies Act, shares or other securities shall include equity shares, fully convertible debentures, partly convertible debentures, or such other securities which would be convertible into or can be exchanged with the equity shares of the company at a later stage.

Usually, companies adopt preferential allotment as it is an easy and fastest means for increasing share capital and bringing capital into the entity. The allotters here become the shareholders of the company and would now be considered as the owned fund of the company rather than any loan taken from banks or financial institutions. Companies like, public, private, listed, unlisted or section 8 companies and such other companies can make preferential allotments or issues.

Here the allotment should be made to persons who are given preference by the company over its existing shareholders. And this will increase the number of shareholders of the company.

Difference Between Preference Shares and Preferential Allotment

Based on the understanding we have acquired regarding preference shares and the preferential allotment, we can say that both of them are not having any direct connection as preference shares are nothing but a type of securities like equity shares which are issued by the companies towards the public or a mass for raising capital. The reward for the same shall be paid in the form of dividends.

But at the same time, preferential allotment is a process of issuing securities to certain preferred, specific groups who are not existing shareholders of company necessarily for raising capital in a faster manner to the entity. This will include preference shares, equity shares, debentures, and other securities which can be converted into or exchanged with the equity shares of the company during a later stage.

Hence, we can conclude that both these concepts are different when taken from the ambit of a company and share allotment except that preference shares can be issued through preferential allotment by a company.

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