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Questions and Answers
What is a key characteristic of cumulative preference shares?
What is a key characteristic of cumulative preference shares?
- They pay dividends only when profits exceed expectations.
- They allow shareholders to convert shares into equity at any time.
- They do not entitle shareholders to any dividends.
- They accumulate unpaid dividends if they are not paid in a given year. (correct)
Which type of preference shares allows shareholders to benefit from surplus profits?
Which type of preference shares allows shareholders to benefit from surplus profits?
- Participating preference shares (correct)
- Redeemable preference shares
- Cumulative preference shares
- Non-cumulative preference shares
What differentiates redeemable preference shares from irredeemable preference shares?
What differentiates redeemable preference shares from irredeemable preference shares?
- Redeemable shares can be converted into equities.
- Redeemable shares are repaid after a set period. (correct)
- Redeemable shares do not accumulate dividends.
- Redeemable shares carry more risk for shareholders.
What happens to non-cumulative preference shares if dividends are not paid in any given year?
What happens to non-cumulative preference shares if dividends are not paid in any given year?
Which type of preference shares does NOT accumulate unpaid dividends?
Which type of preference shares does NOT accumulate unpaid dividends?
What distinguishes cumulative preference shares from non-cumulative preference shares?
What distinguishes cumulative preference shares from non-cumulative preference shares?
Which of the following statements about redeemable preference shares is correct?
Which of the following statements about redeemable preference shares is correct?
How do non-participating preference shares differ from participating preference shares?
How do non-participating preference shares differ from participating preference shares?
Which of the following characteristics is NOT typical of preference shares?
Which of the following characteristics is NOT typical of preference shares?
What is a notable feature of preference shares compared to equity shares?
What is a notable feature of preference shares compared to equity shares?
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Study Notes
Types of Preference Shares
- Preference shares are classified into two main categories: Participating and Non-Participating, Cumulative and Non-Cumulative.
Participating and Non-Participating Shares
- Participating preference shares allow shareholders to partake in surplus profits beyond their fixed dividends.
- Non-participating preference shares do not grant any rights to additional profits beyond fixed dividends.
Cumulative and Non-Cumulative Shares
- Cumulative preference shares accumulate unpaid dividends. These are paid out in the following profitable year before dividends to equity shareholders.
- Non-cumulative preference shares do not accumulate unpaid dividends, meaning shareholders forfeit any unpaid amounts.
Redeemable and Irredeemable Shares
- Redeemable preference shares can be repaid after a specified time, offering less risk and often being more affordable than irredeemable shares.
- Irredeemable preference shares do not have a repayment requirement, making them typically riskier.
Comparison: Preference Shares vs. Equity Shares
- Preference shares typically bear a fixed dividend rate, while equity shares do not.
- Preference shares provide less risk as they receive dividends and capital return before equity shareholders in liquidation.
- Preference shareholders usually do not have normal voting rights, only on matters affecting their interests.
Features of Preference Shares
- Preference shareholders have a prioritized claim on dividends and capital repayment during company winding-up.
- The maximum allowable rate of dividend for preference shares is capped at 14% per year.
- Preference shares are generally issued at a face value of ₹100.
Dividend and Voting Rights
- Equity shareholders enjoy normal voting rights linked to their shareholdings, contributing to overall company management.
- Only equity shareholders are entitled to bonus shares and rights issues, while preference shareholders are excluded.
Differential Rights
- Companies can issue equity shares with differential rights regarding dividends and voting, subject to specific conditions laid out in the Companies Amendment Act 2000.
Taxation on Capital Gains
- Equity investors benefit from no long-term capital gains tax, fostering investments through a tax-efficient environment.
Investment Characteristics
- Equity shares provide permanent capital and legal ownership, offering significant growth potential and appreciation during positive financial periods.
- Preference shares serve as a more cautious investment, ideal for those seeking fixed returns with reduced risk exposure.
Overall Market Context
- Financial markets enable liquidity, allowing easy trading of shares while providing opportunities for substantial returns despite inherent risks.
- The landscape includes both equity and preference shares, with each serving distinct investor preferences and risk profiles.
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