What is the Meaning of Preference Share?

 

Preference Shares (also called Preferred Stock) are a type of share capital that gives shareholders preferential rights over equity (ordinary) shareholders — mainly in terms of dividend payment and repayment of capital in the event of winding up — but typically come with limited or no voting rights.

In simple terms: Preference shareholders sit in between debt holders (like debenture holders) and equity shareholders, in terms of risk and return. They get paid before equity shareholders, but after creditors and debenture holders.

Key features:

1.    Fixed dividend rate – Preference shares usually carry a fixed rate of dividend (e.g., 8% preference shares), unlike equity shares, whose dividend fluctuates based on profits

2.    Priority in dividend payment – Dividends must be paid to preference shareholders before any dividend is paid to equity shareholders

3.    Priority in capital repayment – In case of liquidation, preference shareholders are repaid their capital before equity shareholders (but after creditors/debenture holders)

4.    Limited voting rights – Preference shareholders generally do not have voting rights, except on matters directly affecting their rights (e.g., if their dividend is in arrears for a specified period, in some jurisdictions they may gain voting rights)

Types of Preference Shares:

Type	Meaning
Cumulative	Unpaid dividends accumulate and must be paid in future years before equity shareholders get anything
Non-cumulative	Unpaid dividends do not accumulate; if skipped in a year, it's lost
Participating	Shareholders can also share in additional profits (surplus) along with equity shareholders, beyond the fixed dividend
Non-participating	Shareholders only get the fixed dividend, no extra share in surplus profits
Redeemable	Company can/must buy back (redeem) these shares after a specified period
Irredeemable/Perpetual	No fixed redemption date (rare, and restricted or disallowed in many jurisdictions, e.g., India)
Convertible	Can be converted into equity shares after a certain period
Non-convertible	Cannot be converted into equity shares

Preference Shares vs. Equity Shares:

	Preference Shares	Equity Shares
Dividend	Fixed rate, paid first	Variable, paid after preference
Voting rights	Generally none	Yes
Capital repayment priority	Before equity, on winding up	After preference
Risk	Lower	Higher
Return potential	Limited (fixed)	Unlimited (based on profits)

Preference Shares vs. Debentures:

	Preference Shares	Debentures
Nature	Part of share capital (ownership)	Debt instrument (borrowing)
Return	Dividend (not guaranteed, paid from profits)	Interest (guaranteed, paid regardless of profit)
Priority in liquidation	After debenture holders	Before preference shareholders

Why companies issue preference shares:

·         Raise capital without diluting voting control (since preference shareholders usually can't vote)

·         Attract investors who want more predictable returns than equity, but don't want to be classified purely as lenders

Offers flexibility — can skip dividends (especially non-cumulative) in a bad year, unlike interest on debt, which must be paid regardless