What are merits and demerits of preference share?

Answer 1

DefinitionThe capital of a company is divided into number of equal parts known as shares.

Preference shares

As the name suggests, there have been certain preference as compared to other type of shares. These shares are given two preferences. There is a preference for payment of dividend. The second preference for shares is repayment of capital at the remaining of the profits.

Feature of preferences shares

1. Preference share have been priority over payment of dividend and repayment of capital.

2. Preferences shares do not hold voting rights.

a. Cumulative preference shares:- these shares have been a right to claim dividend for those years also for which there were no profits.

b. Non cumulating preference shares:- the holders of these share have no claim for the arrears of dividend. They are paid a dividend if there are sufficient profits.

c. Redeemable preference share:- neither the company can return the share capital nor the shareholder can demand its repayment.

d. Irredeemable preference shares:- the shares which cannot be redeemed unless the company is liquidated are known as irredeemable preference shares.

Advantages

1. Helpful in raising long term capital for a company

2. There is no need to mortgage property on these shares.

3. Redeemable preference shares have the added advantages of repayment of capital whenever there is surplus in the company.

4. Rate of return is guaranteed.

Disadvantages

1. Permanent burden on the company to pay a fixed rate of dividend before paying anything on the other shares.

2. Not advantageous to investors from the point of view of control and management as preferences shares do not carry voting rights.

3. Compared to other fixed interest bearing securities such as debentures, usually the cost of raising the preference share capital is higher.

By Golak Sahu

MBA-Finance