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Understanding Preference Shares: Definition, Features & Examples

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Difference Between Preference Shares and Equity Shares

Preference shares are a special type of company share that offers shareholders priority for dividends and claims over assets. Understanding preference shares is essential for school exams, competitive commerce exams, and for practical knowledge about financing and business investments. Their features and types are commonly tested and highly relevant for students of accounting and financial management.


Type of Preference Share Dividend Features Conversion Option Redemption
Cumulative Missed dividends are accumulated and paid later No Sometimes redeemable
Non-Cumulative Only current year’s profit; unpaid dividends are lost No Sometimes redeemable
Redeemable May be cumulative or non-cumulative No Company can buy back/repay after a period
Convertible May be cumulative or non-cumulative Yes (to equity shares) May or may not be redeemable
Participating Fixed dividend + extra share in surplus profit No Usually non-redeemable

What are Preference Shares?

Preference shares, also called preferred shares or preferred stock, are company shares that provide holders with priority in receiving dividends and repayment of capital over equity shareholders. Preference shareholders usually receive a fixed dividend but generally do not have voting rights in company decisions. These shares are considered hybrid instruments, having features of both equity and debt.


Key Features of Preference Shares

The following points highlight the main features of preference shares for exam preparation and business understanding:

  • Preference in dividend payment before equity shareholders.
  • Fixed rate of dividend, determined at the time of issue.
  • Limited or no voting rights in company matters.
  • Priority of repayment of capital in case of company winding up/liquidation.
  • Could be redeemable or irredeemable (subject to company law).
  • Classified as hybrid financial instruments (mix of equity and debt).

Types of Preference Shares

Preference shares can be divided into various types, each with unique features. Understanding these types is important for Board and entrance exams. The table below summarizes the main types found in India:

Type Definition Example
Cumulative Unpaid dividends are added up and paid later when profits allow. If a company misses dividend payment in one year, it is carried forward.
Non-Cumulative Only gets dividends from current profits; unpaid years are not recovered. If profit is insufficient, shareholder does not get past unpaid dividends.
Redeemable Company can buy back shares after a certain period. Shares redeemable after 5 years at a set price.
Irredeemable Cannot be bought back except at company’s liquidation. Shares remain until the company is wound up.
Participating Shareholders can share in surplus profits after standard dividend. Additional 2% dividend from surplus profits, beyond fixed rate.
Non-Participating Only get fixed dividend, no right to extra surplus. Shareholder only receives the fixed rate declared.
Convertible Can be converted into equity shares after a time. Convertible to equity after 3 years as per agreement.
Non-Convertible Cannot be converted into equity shares. Remain as preference shares until repaid/redeemed.

Preference Shares vs Equity Shares

Understanding the comparison between preference shares and equity shares is a frequent exam question. The table below highlights their key differences:

Criteria Preference Shares Equity Shares
Dividend Rate Fixed Variable (depends on profit)
Dividend Priority Priority over equity Paid after preference share dividend
Voting Rights Generally none Full voting rights
Repayment in Winding Up Priority repayment Last claim on assets
Convertibility Can be convertible/non-convertible Not applicable

Advantages of Preference Shares

Preference shares offer several advantages to both investors and companies, making them popular in financial management and exam scenarios:

  • Priority in receiving fixed dividends brings income stability.
  • Suitable for conservative (low-risk) investors.
  • Priority in repayment of capital if the company winds up.
  • Does not dilute company control as voting rights are limited.
  • Flexible options: cumulative, non-cumulative, redeemable or convertible.

Disadvantages of Preference Shares

There are also some disadvantages that students must consider while answering board or case study questions:

  • No voting rights (except in special situations).
  • Dividend is only paid if company profits are available.
  • Returns may be lower than equity shares in highly profitable companies.
  • In the long term, shares may lose value if not convertible or redeemable.

Real-Life Examples of Preference Shares

Suppose "ABC Ltd" issues 1,000 cumulative preference shares at ₹100 each, with a 10% fixed dividend. If ABC cannot pay the dividend in 2022, it will owe ₹10,000 in 2023, plus ₹10,000 for 2022, to preference shareholders before paying equity shareholders. Large Indian companies like Tata or Reliance sometimes issue redeemable or convertible preference shares for raising funds with flexible terms. These concepts are frequently seen in company accounts, financial analysis, and practical business scenarios.


When to Use Preference Shares Knowledge

Understanding preference shares is essential for answering questions in CBSE, State Board, and commerce entrance exams. It is also useful while analyzing company balance sheets, making investment decisions, or learning about sources of finance in business studies. To learn more about related topics, refer to Types of Shares and see real exam questions in Equity Shares and Preference Shares.


At Vedantu, we simplify commerce concepts like preference shares to help students succeed in their exams and understand business life better.


In summary, preference shares are hybrid financial instruments offering fixed dividends and priority claims, but generally without voting rights. Their types—cumulative, non-cumulative, redeemable, convertible, and participating—are important for exams and real-world analysis. Recognizing their features, advantages, and differences with equity shares is vital for any student of commerce or business.

FAQs on Understanding Preference Shares: Definition, Features & Examples

1. What is meant by preference share?

Preference shares are a type of hybrid financial instrument that gives shareholders priority over ordinary shareholders in receiving dividends and claims on company assets. They combine features of both debt and equity.

2. How are preference shares different from equity shares?

Preference shares and equity shares differ significantly. Preference shares usually have a fixed dividend rate, priority in dividend payments, and limited or no voting rights. Equity shares, conversely, offer no guaranteed dividend and carry voting rights, representing ownership in the company. This difference is a key concept for commerce exams.

3. What are the main types of preference shares?

Several types of preference shares exist, each with unique characteristics: Cumulative preference shares (unpaid dividends accumulate), Non-cumulative preference shares (unpaid dividends are lost), Redeemable preference shares (can be bought back by the company), and Convertible preference shares (can be converted into equity shares). Understanding these types is crucial for exam success.

4. Do preference shares have voting rights?

Generally, preference shareholders have limited or no voting rights in company matters. Their priority lies in dividend payments and asset claims, not in managerial control. This is a key distinction between preference and equity shares.

5. Can you give an example of a preference share?

Imagine a company issuing shares where investors receive a fixed dividend of 5% annually, paid before dividends to ordinary shareholders. These are preference shares. The company may also include conditions like being redeemable or convertible.

6. What are the main advantages of preference shares for a company?

For companies, preference shares offer several advantages: They can raise capital without diluting ownership (voting rights are often limited), offer a lower cost of capital than debt, and boost a company's credit rating. Understanding these advantages is important for corporate finance topics.

7. What are the main advantages of preference shares for investors?

For investors, preference shares provide a relatively stable income stream through fixed dividends. They also offer some protection against company liquidation due to priority claims. However, potential for high returns like equity shares is lower.

8. What are the disadvantages of preference shares for a company?

Issuing preference shares can lead to a decrease in earnings per share for equity holders, and a potential increase in the company's cost of capital if the dividend rate is too high. This can have implications for company valuation.

9. What are the disadvantages of preference shares for investors?

While offering a steady income, preference shares typically offer lower returns than equity shares. Also, their value can be affected by changes in interest rates and the financial health of the issuing company, making them riskier than some other investments.

10. How are preference shares treated in bankruptcy proceedings?

In bankruptcy, preference shareholders have a higher priority claim on company assets compared to ordinary shareholders but lower priority than debt holders. This order of priority can be very important for understanding financial risk.

11. What is the difference between cumulative and non-cumulative preference shares?

The key difference lies in dividend payments. With cumulative preference shares, unpaid dividends accumulate and must be paid before any dividends are given to ordinary shareholders. Non-cumulative preference shares lose any unpaid dividends. This is a key distinction for exam questions.

12. What is meant by redeemable preference shares?

Redeemable preference shares can be repaid by the company at a specified date or after a certain period, as outlined in the share's terms. This offers flexibility for both the company and the investor.