shares-types equity, preference -merits and demerits.pptx

shares-types equity, preference -merits and demerits

1. Sources of Funds

2. Share Capital Share Capital: Long term funds can be raised from share capital. According to Section 86 of Companies Act, 1956, a company can issue only two types of shares i.e. (a) Equity shares (b) Preference shares Equity Shares Preference Shares SHARES

3. Equity Shares Equity shareholders are known as the real owners of the business. They have a control over the working of the company. Equity shares are paid dividend after the preference shares. At the time of winding up equity capital is paid back after meeting all other obligations. They do not have a right to get fixed percentage of dividends. The dividend depends upon the amount of profits available. When there is no profit, they generally do not get any dividend.

4. Merits of Equity Shares Company does not have the forced obligation to pay dividend to equity shareholders. Equity shares are a permanent source of funds which facilitates flexibility in usage of funds. The obligation to repay the equity capital arises only at the time of liquidation of the company. The shareholders can participate in the management of the company through voting rights, personally or through proxy. Equity shares can be issued without creating any charge over the assets.

5. Demerits of Equity Shares: Equity shares are always associated with the expectations of the investors. It may not be possible to fulfill the expectations of the investors. Equity shareholders have to bear all the losses at the time of winding up. Interests of many persons are involved in the working of the company and hence sometimes it creates delay in decision-making. When finance has to be raised for less risky projects, then this is not a good source of raising finance.

6. Demerits---- If only equity shares are issued then the company can not avail the benefits of trading on equity. Investors who have a desire to invest in safe or fixed returns have no attraction of such shares. There may be danger of over-capitalization, as equity share capital cannot be paid back during the life time of the company. However, now-a days there is a provision for buy back of shares. Rise in the market value of shares may lead to unhealthy speculation.

7. Demerits---- In case a company wants to increase its authorized share capital, so many legal formalities are to be complied with. Such shares have no attraction for those investors who desire to have a regular income. Such shareholders have to remain contended without any dividend or with nominal dividend in case of absence of profits or inadequate profits. In spite of all the disadvantages, equity shares continue to be the first choice of most of the companies, particularly in initial years and in case of companies having intermittent earnings.

8. Preference shares Preference shares are those shares which during the life time of the company are entitled to a priority in the payment of dividends at a fixed rate, and the return of the capital in the event of winding up of the company.

9. Types of Preference shares Cumulative Preference Shares : Cumulative preference shares are those shares on which the amount of dividend goes on accumulating. It means that on these shares, if dividend is not paid in one year, that dividend will be combined in the next year. For example in the year 2007, if company is unable to pay dividend of Rs.5,000, then in the year 2008, the company has to pay Rs. 5,000 of 2007 and Rs. 5,000 of the year 2008. Non-cumulative Preference Shares: Such shares do not have the privilege of the accumulation of unpaid dividend. In other words, if profits during a particular year are not sufficient, no dividend will be paid for that year in the years to follow. Participating Preference Shares : These shares get dual benefit on the capital, first a fixed rate of dividend and then a fraction of surplus profits left after paying dividend to equity shareholders. The surplus profits are distributed between the preference shares and equity shares.

10. Types---- Non Participating Preference Shares: These shares do not carry the additional right of sharing the surplus. Redeemable Preference Shares: Those preference shares which are to be repaid after the expiry of a certain period of time. Irredeemable Preference shares: Those shares which can only be repaid only at the time of winding up. Convertible Preference shares: Those shares which can be converted into equity shares or other category of preference shares after the expiry of a stipulated period of time. Non-convertible Preference Shares: Those preference shares which cannot be converted.

11. Merits of Preference Shares: It provides preferential right to pay dividend and the repayment of the capital. Preference shares provide long term capital. There is no liability to redeem the preference shares except redeemable preference shares. It earns a fixed rate of dividend. Preference shares although carry no voting right but the holders of such shares can vote on matters pertaining to them. Redeemable preference shares have the added advantage of repayment of capital when there are surplus funds with the company. These shares provide strongest appeal to the cautious investors who want to combine security of the returns with the higher rate of return.

12. Demerits of Preference Shares: It is an expensive source of finance as compared to debt because generally the investors expect a high return of dividend than the interest on debentures. Cumulative preference shares become a permanent burden so far as the payment of dividend is concerned. Preference shares have no charge on the assets so it looses the interest of the investors.

13. Demerits---- Preference shareholders are deprived of voting rights. Generally preference shareholders have no right to participate in the surplus. Preference shareholders are put to loss if their holdings are redeemed during periods of depression. The device of sinking fund may be introduced for the purpose of redemption which itself is full of many abuses.

14. Debentures: A debenture is a document issued by the company as an acknowledgement of debt. It is a certificate issued by the company under its seal acknowledging a debt due to its holder. On debentures a fixed rate of interest is paid at regular intervals. Usually these are secured by some asset of the company. A debenture holder is a creditor of the company.

15. Types of Debentures: Simple or Naked or Unsecured Debentures : These debentures are not given any security on debentures. Secured or Mortgage Debentures : These debentures are given security on assets of the company. Bearer Debentures : These debentures are easily transferable. Anybody who holds these debentures becomes the owner of such debentures.

16. Types---- Registered Debentures : Registered debentures are those debentures which are registered with the company. These debentures can not be transferred by mere delivery but a proper procedure is to be followed for transfer. Both transferor and transferee are expected to sign the transfer deed. Redeemable Debentures : These debentures are to be redeemed on the expiry of a certain period. The interest on debentures is paid periodically but the principle amount is returned after a fixed period. Irredeemable / Perpetual debentures : Those debentures which can be repaid at the time of winding up.

17. Types---- Convertible debentures: Those debentures which can be converted into shares or other category of debentures. Non-Convertible debentures: Those debentures which cannot be converted. Partly Convertible debentures: When a part is converted into shares and the remaining part is called non-convertible portion. Zero interest debentures: It is usually a convertible debenture which yields no interest. The investor is compensated for the loss of interest through conversion into equity shares at a specified future date.

18. Merits Of Debentures Certainty of finance for a fixed period Great market response in the days of depression Assist in mobilisation of savings of a class of investors which is highly cautious Provide long term funds Usually lower rate of interest than the rate of dividend Lower effective cost

19. Merits---- No dilution of control No effect of price level changes Flexibility in capital structure Provide regular, fixed and stable source of earnings Safer for the holders as they have some charge Definite maturity period

20. Demerits Of debentures The fixed interest charges and repayment of principal on maturity are legal obligations which have to be met. Charge on assets restricts a company from using this source of finance. Cost of raising finance is high because of high stamp duty. Not useful for companies having irregular and inadequate earnings. No controlling power with the investors as they have no voting rights Interest on debentures is taxable.

21. Public Deposits The third source of raising long term funds which has been particularly popular in the textile industry of Ahmedabad and Bombay as well as in the tea gardens of Bengal and Assam is the public deposits. It consists of accepting deposits by a company from the members of public (including shareholders and directors) for periods ranging from six months to thirty six months.

22. Advantages: 1) No legal formalities 2) Higher dividends 3) No charge on the property of the company 4) Elasticity in capital structure 5)Reserve fund for development 6)Reasonable effective post tax cost 7)Easiest source of finance 8)Profitable instrument of trading on equity

23. Disadvantages 1)Fair-weather friend; 2)Uncertain source of finance; 3)Unsound source of finance; 4)Inelastic source of finance; 5)Costly source of finance; 6)Short maturity period

24. Disadvantages---- 7)Government restrictions; 8)Higher risky for the investor; 9)Neither covered by insurance nor guaranteed by Government; 10)Not as liquid as bank deposits; 11)May encourage non priority sectors.

25. Factors Affecting long term fund Requirements 1)Nature of industry 2)Quantity of product 3)size of factory 4)Production plus marketing or merely marketing 5)Method of handling of production 6)Provision for intangible assets