Meaning and Legal Framework
Preference share capital refers to that part of a company’s share capital which carries preferential rights as compared to equity shares, especially with respect to payment of dividend and repayment of capital. Under Section 43 of the Companies Act, 2013, preference shares are those which have (a) a preferential right to receive a fixed amount or fixed rate of dividend, and (b) a preferential right to repayment of capital in the event of winding up of the company. These shares may be cumulative or non-cumulative, redeemable or irredeemable (though irredeemable preference shares are prohibited), and participating or non-participating. The main objective of issuing preference share capital is to raise funds without diluting control, as preference shareholders generally do not enjoy voting rights except in special circumstances provided under Section 47(2). Thus, preference share capital occupies a middle position between equity shares and debentures.
Rights and Characteristics
Preference shareholders enjoy priority over equity shareholders in two significant respects. Firstly, they are entitled to receive dividend at a fixed rate before any dividend is paid to equity shareholders, as recognized under Section 43. Secondly, in the event of winding up, their capital is repaid before equity shareholders. However, preference shareholders usually do not have voting rights on ordinary resolutions, except when their dividend is in arrears for a specified period or when resolutions directly affect their rights, as per Section 47 of the Companies Act, 2013. Preference share capital can also be redeemed in accordance with Section 55, subject to conditions such as redemption out of profits or proceeds of a fresh issue. These features make preference shares attractive to investors seeking stable returns with relatively lower risk.
Importance and Limitations
Preference share capital is an important source of finance for companies as it does not involve dilution of ownership or control, unlike equity shares. It is particularly useful for companies that want to raise long-term funds while maintaining managerial control. From the investor’s perspective, preference shares offer safety of capital and assured income. However, they also have limitations. Preference shareholders do not usually benefit from high profits, as their dividend rate is fixed. Additionally, they have limited participation in management decisions. Despite these limitations, preference share capital plays a vital role in corporate financing and capital structuring, balancing the interests of the company and investors under the regulatory framework of the Companies Act, 2013.
Realtime Example
Consider a manufacturing company that requires funds to expand its production unit but does not want to dilute equity shareholders’ control. The company issues 10% redeemable preference shares to investors. These investors receive a fixed 10% dividend annually, irrespective of the company’s fluctuating profits, provided sufficient profits exist. In case the company is wound up, preference shareholders will get back their capital before equity shareholders. This practical situation clearly shows how preference share capital works as a secure investment option while helping companies raise funds efficiently under Section 43 and Section 55 of the Companies Act, 2013.
Mnemonic to Remember
A simple mnemonic to remember preference share capital is “D-R-P”:
D – Dividend priority
R – Repayment priority
P – Preference over equity
This mnemonic helps students quickly recall the core features of preference share capital during examinations. By remembering “D-R-P,” one can easily structure an answer explaining the meaning, rights, and advantages of preference shares under the Companies Act, 2013.
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