Equity Shares: Meaning, Features, Types & Benefits
Investing in equity shares of companies is a popular investment strategy among investors due to the high returns it can generate. Usually, companies issue equity shares to source capital from outside investors or promoters for their expansion and growth plans. In return, equity shareholders get a part of the company’s profits and even voting rights in specific cases.
Let us understand the concept of equity shares in detail
What Are Equity Shares?
Equity shares represent proportionate ownership and act as long-term financing options for organisations looking to raise capital. Each equity shareholder becomes a fractional owner of the company. They also get the right to claim assets in the organisation, share profits and vote.
Equity shares offer an investment opportunity to the public, however it should be noted that such shares are non-redeemable in nature.
What Are the Features of Equity Shares?
The primary features of equity shares are as follows:
- Equity shares issued by a company are permanent in nature and can be redeemed only when the company decides to close its business or when it offers a buyback of shares.
- As equity shares offer high returns, they tend to be volatile and carry a high risk.
- The ownership of an equity share is transferable among investors, and some companies offer dividend pay-out to shareholders.
- Equity shareholders get voting rights and can take part in the company’s management discussions and meetings.
- In case of equity shares, the value of dividend pay-outs varies as it depends on the company’s profit, deployment of the profits and availability of funds.
What Are the Different Types of Equity Shares?
The different types of equity shares are as follows:
- Ordinary shares or Issued shares
Ordinary shares are issued by a company with a motive to generate capital that can meet long-term expenses required by the business. It also benefits investors, wherein they get substantial voting rights and rights to participate in management decisions and company’s operations.
- Preference Equity Shares
Preference equity shares are issued to certain investors with a priority of dividend pay-outs and claim over assets in case of liquidation before equity shareholders. However, preference shareholders do not have any voting right which is available to equity shareholders. If such shareholders are participating in nature, they are entitled to additional profits over and above the preference dividend. However, if the shareholders are non-participating, they cannot avail such benefits.
- Bonus Shares
Bonus shares are issued to existing investors in the form of additional shares, generally when a business generates profit. These shares do not increase the total market capitalisation of a company, as there is no inflow of funds on issue of bonus shares, but lead to a decrease in per share value.
- Rights Shares
Companies issue rights shares to their existing stockholders at a discounted price, which increases their stake in the company. However, organisations offer rights shares for a limited time until the financial requirements are enough to suffice the expenditures of the company.
What Are the Advantages of Purchasing Equity Shares?
The advantages of investing in equity shares are as follows:
- An equity share accompanies high risk, but it also has the potential to offer greater returns. Equity shareholders also receive dividend pay-outs based on the profits generated by the company.
- Equity shares are highly liquid and can easily be converted into cash and sold in the capital market.
- As an investor, you can create a diverse portfolio by investing across equities of companies of various sectors, industries, market capitalisation, etc.
- Equity shares can also act as collateral for loans. Investors can pledge and borrow money against such shares in case of requirement of funds, without giving up the ownership of the shares.
What Are the Disadvantages of Investing in Equity Shares?
The disadvantages of buying equity shares are as follows:
- If a company issues only equity shares, it cannot take the credit or any other advantage of equity trading.
- Equity cannot be reclaimed; hence, there is a risk of liability overcapitalisation.
- Equity shareholders can cause hindrances to the management by guiding and systematising themselves.
- A firm has to pay higher dividends to equity shareholders when it earns more profit, leading to a rise in market share value.
- If equity shareholders predict the poor performance of a company, they might sell all shares resulting in a decrease in share demand which may drop the share price.
What Are the Differences Between Equity Shares and Preference Shares?
Out of all the types of equity shares that a company can issue, ordinary equity shares and preference shares have stark differences, which have been explained below.
|Parameters||Ordinary Equity Shares||Preference Shares|
|Dividend Pay-out||Paid after pay-out to preference shareholders||Dividend received before equity shareholders.|
|Rate of Dividend||Fluctuates depending on the company’s profit||Dividend remains fixed|
|Voting Rights||Applicable||Not applicable|
|Role in Management||Shareholders can participate in management decisions through appointment of directors||Shareholders not allowed to participate in management decisions|
|Redemption||Not redeemable||Redeemable as well as non redeemable|
|Bonuses||Shareholders receive bonuses against their current shareholdings||Shareholders do not receive bonus shares|
|Capital Repayment||Repaid at the end||Repaid or reimbursed before the equity shares|
|Arrears of Dividend||Not receivable||Receivable in addition to the current year’s dividends|
It is recommended never to make any investment decision without having an overall idea about the fundamentals and finances of the company. Equity share investments require a lot of time and effort for detailed research and a fair understanding of the entity’s basics and operation. Once you have gained enough knowledge, you can build a considerable corpus through equity market investment.
Frequently Asked Questions
Who should invest in equity shares?
Anyone can invest in equity shares as per his/her investment objectives and risk appetite. If you have a long-term goal, it is better to invest in equity shares. This will give you enough time to combat and keep up with market fluctuations.
What is an alternative investment option to equity shares?
An alternative investment option to equity shares is debt securities, which are comparatively less risky. However, the returns generated by debt investments are also less, resulting in a reduction of substantial capital gains. Other than debt, you can invest in gold, real estate, etc as well.