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UNIVERSITY OF PETROLEUM AND ENERGY STUDIES

(COLS)

COMPANY LAW
PROJECT
PREFERENTIAL ISSUE OF SHARES

SUBMITTED BY: Shreya Virmani and Shreshtha Maithani

COURSE: BBA. LLB 5th SEMESTER

SAP ID: 500037617, 500037323

ROLL NO: 53, 65

SUBMITTED TO: Mr. Ajit Kaushal


ACKNOWLEDGEMENT

We would like to pen down a word of thanks to our Asst.Prof. Ajit Kaushal without
whose Constant Support and guidance we would not have been able to make this
project. The work culture in his class is really motivating.

Constant debates and discussions amongst our classmates not only enhances our
knowledge but also invokes a great interest in the project.

We are highly indebted to our professor who gave me an opportunity to work on


this project. This project not only gave us an insight into the topic but also helped
me learn about latest laws and current debates challenging our laws.
ABSTRACT

PREFRENTIAL ISSUE OF SHARES

A preferential issue is an issue of shares or of convertible securities by listed companies to a


select group of persons under Section 81 of the Companies Act, 1956 which is neither a rights
issue nor a public issue. This is a faster way for a company to raise equity capital. The issuer
company has to comply with the Companies Act and the requirements contained in Chapter
pertaining to preferential allotment in SEBI (DIP) guidelines which inter-alia include pricing,
disclosures in notice etc.Where at any time, a Company having a share capital proposes to
increase its subscribed capital by the issue of further shares, such shares may be offered to any
persons, if it is authorised by a special resolution, either for cash or for a consideration other than
cash, if the price of such shares is determined by the valuation report of a registered valuer
subject to such conditions as may be prescribed [Section 62(c) of the Companies Act, 2013].
These persons may include equity shareholders of the company referred to in clause (a) or
employees of the company referred to clause (b). Where the preferential offer of shares or other
securities is made by a company whose share or other securities are listed on a recognized stock
exchange, such preferential offer shall be made in accordance with the provisions of the Act and
regulations made by the Securities and Exchange Board.It the shares or other securities of the
company are not listed, the preferential offer shall be made in accordance with the provisions of
the Act and rules made hereunder.Rules 13 of the Companies (Share Capital and Debentures)
Rules 2014 give us detailed procedure. Before discussing provisions in details, we may
understand expression “Preferential Offer”.The expression ‘Preferential Offer’ means an issue of
shares or other securities, by a company to any select person or group of persons on a
preferential basis and does not include shares or other securities offered through a public issue,
rights issue, employee stock option scheme, employee stock purchase scheme or an issue of
sweat equity shares or bonus shares or depository receipts issued in a country outside India or
foreign securities.Preferential Allotment is the process by which allotment of securities/shares is
done on a preferential basis to a select group of investors. In this Company makes bulk allotment
of Shares/ Securities to individuals, companies, venture capitalists or any other person through a
fresh issue of shares.

KEYWORDS: Preferential, Company, Allotment, Securities, Provisions


SYNOPSIS

STATEMENT OF PROBLEM
A preferential issue is an issue of shares or of convertible securities by listed companies to a
select group of persons under Section 81 of the Companies Act, 1956 which is neither a rights
issue nor a public issue. This is a faster way for a company to raise equity capital. The issuer
company has to comply with the Companies Act and the requirements contained in Chapter
pertaining to preferential allotment in SEBI (DIP) guidelines which inter-alia include pricing,
disclosures in notice etc. Preferential Allotment is the process by which allotment of
securities/shares is done on a preferential basis to a select group of investors. Preference shares
are considered a hybrid instrument as they are quasi-debt and quasi-equity. They allow an
investor to own a stake in the issuing company with a condition that whenever the company
decides to pay dividends, the holders of the preference shares will be the first to be paid.

SURVEY OF EXISTING LIETRATURE


In this project I would be going through the guidance note of preferential issue of shares. This
Guidance Note outlines the various aspects of the law, compliance and rules and regulations
applicable to companies, both listed and unlisted, for issue of securities on preferential basis. The
inclusion of Checklists and specimen resolutions in this Guidance Note adds value and should
prove to be of immense benefit to the members of the profession and the corporates. I will also
refer Taxmann’s Companies Act 2013. Regarding the online resources I will also be referring to
some articles namely- Spinning and underpricing: A legal and economic analysis of the
preferential allocation of shares in initial public offerings

IDENTIFICATION OF ISSUES
This project will talk about how the shares are preferred over one another and also the process of
how to get the share preferred over one another. Also it will talk about preference shares by
which preferential issue of shares would be easy to understand. Meanwhile, preferential offer
will also be discussed along with preferential allotment.

OBJECTIVE AND SCOPE OF RESEARCH


By going through this project we will understand as to how we can minimize the risk level in
choosing or preferring a particular share in a company. Also, how such shares or stocks are
preferred and on what basis. How preference shares are different from other shares and on what
grounds. Also we will know more about How Companies issue preference shares to raise funds
without diluting voting rights which is the trade-off to be made for getting an assured income.

RESEARCH METHODOLOGY
The research methodology employed in this project would be the Interpretive Approach
(qualitative method), for it would be done through interpretations of the various books, articles
and case laws. Interpretative methodologies position the meaning making practices of human
actors at the center of scientific explanation. Called qualitative research in some disciplines, it is
conducted from an experience-near perspective in that the researcher does not start with concepts
determined by a priori but rather seeks to allow these to emerge from encounters in “the field”.
Interpretive research focuses on analytically disclosing those meaning-making practices, while
showing how those practices configure to generate observable outcomes.

This approach gives an authentic view to my topic and does a critical evaluation of the
contemporary section. This project is completely bound with the secondary sources. Books,
Articles, Blogs, Web has been used to identify each and everything related to my research topic.

PROBABLE OUTCOME
The issue of preference shares is one of the important sources of capital of a company therefore
after going through this project there will be a better understanding over the preferential issues of
shares which a company deals with.
TABLE OF CONTENTS

1. ISSUE OF SHARES ON PREFERENTIAL BASIS- INTRODUCTION

2. GUDELINES OF PREFERENTIAL ISSUES

2.1 PRICING OF THE ISSUE

2.2 PRICING OF SHARES ARISING OUT OF WARRANTS, ETC

2.3 PRICING OF SHARES ON CONVERSION

3. PREFERENCE SHARES

4. COUNTRY BY COUNTRY PERSPECTIVE: A COMPARATIVE ANALYSIS

5. SIGNIFICANCE TO INVESTORS

6. CONDITIONS FOR REDEMPTION OF PREFERENCE SHARES

7. CONCLUSION

1. ISSUE OF SHARES ON PREFERENTIAL BASIS- INTRODUCTION


Where at any time, a company having a share capital proposes to increase its subscribed capital by the
issue of further shares, such shares may be offered to any persons, if it is authorized by a special
resolution, either for cash or for a consideration other than cash, if the price of such shares is determined
by the valuation report of a registered value are subject to such conditions as may be prescribed [Section
62(c) of the Companies Act, 2013]. These persons may include equity shareholders of the company
referred to in clause (a) or employees of the company referred to clause (b). 1

Rules 13 of the Companies (Share Capital and Debentures) Rules 2014 give us detailed procedure. Before
discussing provisions in details, we may understand expression “Preferential Offer”.

The expression ‘Preferential Offer’ means an issue of shares or other securities, by a company to any
select person or group of persons on a preferential basis and does not include shares or other securities
offered through a public issue, rights issue, employee stock option scheme, employee stock purchase
scheme or an issue of sweat equity shares or bonus shares or depository receipts issued in a country
outside India or foreign securities.

For the purposes of issue of shares on preferential basis under clause (c) of sub-section (1) of section 62,
If authorized by a special resolution passed in a general meeting, shares may be issued by any company in
any manner whatsoever including by way of a preferential offer, to any persons whether or not those
persons include the persons referred to in clause (a) or clause (b) of sub-section (1) of section 62 and such
issue on preferential basis should also comply with conditions laid down in section 42 of the Act.

This make clear that Section 42 which is private placement shall always be read with Section 62(1)(C)
read with Rule 13 of these Rules. Section 42 will not apply to a public issue, rights issue, employee stock
option scheme, employee stock purchase scheme or an issue of sweat equity shares or bonus shares or
depository receipts.

The price of shares to be issued on a preferential basis by a listed company shall not be required to be
determined by the valuation report of a registered valuer.

Preference shares are shares which are preferred over common or equity shares in payment of surplus.
Owners of preference shares gets fixed dividend. However, in the event of liquidation of the company
they are paid after bond holders and creditors 2, but before equity holders.

To simplify, when you buy shares from the company you become part-owner of the company, you are
common shareholder or equity shareholder. One cannot directly own preference shares as it is for only
Board of Directors, promoters of the company or financial institutions. They are still not offered to retail-
investors.

Preference shares are not liquid shares as they are not traded on stock exchanges. The other disadvantage
is they don't have voting rights.

For example, if the company ABC declares extra dividend common shareholders are eligible to receive
such dividends. Whereas, preference shareholders are entitled for fixed dividends.In another scenario, if

1 Kieso, Weygandt & Warfield 2007, p. 739.


2 Harvard Business Services, Inc. Accessed February 23, 2007
the company ABC is under liquidation, preference shareholders would enjoy priority over common
shareholders in terms of payments.

Preferred shares represent an ownership stake in a company -- in other words, a claim on its assets and
earnings. However, as the term suggests, "preferred" shares carry certain advantages. While preferred
shares usually do not carry the same voting rights as common shares, they do have priority when it comes
to dividends and bankruptcy. And like common shares, preferred shares can be bought and sold through a
broker. 3

Preferred shares represent an ownership stake in a company -- in other words, a claim on its assets and
earnings. However, as the term suggests, "preferred" shares carry certain advantages. While preferred
shares usually do not carry the same voting rights as common shares, they do have priority when it comes
to dividends and bankruptcy. And like common shares, preferred shares can be bought and sold through a
broker.

Preferred shares are a good alternative for risk-averse investors wanting to buy equities. In general, they
are less volatile than common shares and provide a better stream of dividends. Most preferred shares are
also callable, meaning the issuer can redeem the shares at any time, so they provide investors with more
options than common shares. But for all of these advantages, preferred shares have one downside -- its
shareholders generally do not enjoy the same voting privileges as the holders of common shares. Not all
investors actively participate in voting, but it may be a deterent for some investors.

PREFERENTIAL ISSUE PROCEDURE TO BE DONE BY LISTED COMPANIES

Conditions to be satisfied.

 10% of the PRICE shall be payable at the time of allotment of warrants. This amt will be forfeited
if the option to acquire shares is not exercised.
 Option to convert Warrants and other financial Instruments should be exercised within 18 months
of date of issue of security.
 Instruments allotted on preferential basis to promoter / promoter group shall be subject to lock in
of 3Yrs. However only 20% of the total capital of the company including capital brought in by
way of preferential issue shall be locked in for 3 Yrs and remaining shall be locked into a period
of 1 year.4
 Instrument should be allotted within 15 days of EGM Resolution .in case not allotted within 15
days then fresh EGM should be called and resolution should be passed.
 In case any allottee holds any shares in the company prior to Preferential Issue then that holding
should be Demat form
 Entire pre preferential holding if any of the allottee shall be locked in for a period of 6 months.
 Securities allotted on preferential basis to persons other than promoter shall be locked in for a
period of one year from the date of issue of security.

3 Kieso, Donald E.; Weygandt, Jerry J. & Warfield, Terry D. (2007), Intermediate Accounting (12th ed.), New York:
John Wiley & Sons, p. 738, ISBN 0-471-74955-9.
4 According to a Quantum Online table
2.GUIDELINES FOR PREFERENTIAL ISSUES

The preferential issue of equity shares/ Fully Convertible Debentures (FCDs) / Partly Convertible
Debentures (PCDs) or any other financial instruments which would be converted into or exchanged with
equity shares at a later date, by listed companies whose equity share capital is listed on any stock
exchange, to any select group of persons under section 81(1A) of the Companies Act 1956 on private
placement basis shall be governed by these guidelines. 5

Such preferential issues by listed companies by way of equity shares/ Fully Convertible Debentures
(FCDs) / Partly Convertible Debentures (PCDs) or any other financial instruments which would be
converted into / exchanged with equity shares at a later date, shall be made in accordance with the pricing
provisions mentioned below:

2.1 Pricing of the issue

The issue of shares on a preferential basis can be made at a price not less than the higher of the following:

i)The average of the weekly high and low of the closing prices of the related shares quoted on the stock
exchange during the six months preceding the relevant date; which is a "relevant date" for the purpose of
this clause means the date thirty days prior to the date on which the meeting of general body of
shareholders is held, in terms of Section 81(1A) of the Companies Act, 1956 to consider the proposed
issue.

ii)The average of the weekly high and low of the closing prices of the related shares quoted on stock
exchange during the two weeks preceding the relevant date which is "stock exchange" for the purpose of
this clause means any of the recognized stock exchanges in which the shares are listed and in which the
highest trading volume in respect of the shares of the company has been recorded during the preceding six
months prior to the relevant date.

2.2 Pricing of shares arising out of warrants, etc.

(a) Where warrants are issued on a preferential basis with an option to apply for and be allotted shares, the
issuer company shall determine the price of the resultant shares in accordance with Clause 2.1 above.

(b) The relevant date for the above purpose may, at the option of the issuer be either the one referred in
explanation (a) to Clause2.1 above or a date 30 days prior to the date on which the holder of the warrants
becomes entitled to apply for the said shares. The resolution to be passed in terms of section 81(1A) shall
clearly specify the relevant date on the basis of which price of the resultant shares shall be calculated.

(c) An amount equivalent to atleast ten percent of the price fixed in terms of Clause2.1 above shall
become payable for the warrants on the date of their allotment.

5 Heinkel, R. & Zechner, J. (1990), "The Role of Debt and Preferred Stock as a Solution to Adverse Investment
Incentives", Journal of Financial and Quantitative Analysis, 25 (1): 1–24 [p. 2], doi:10.2307/2330885
(d) The amount referred to in sub-clause (a), shall be adjusted against the price payable subsequently for
acquiring the shares by exercising an option for the purpose.

(e) The amount referred to in sub-clause (a) shall be forfeited if the option to acquire shares is not
exercised.

2.3 Pricing of shares on conversion

13.1.3.1 Where PCDs/FCDs/other convertible instruments, are issued on a preferential basis, providing
for the issuer to allot shares at a future date, the issuer shall determine the price at which the shares could
be allotted in the same manner as specified for pricing of shares allotted in lieu of warrants as indicated in
Paras 2.1 and 2.2 above6

13.1A The explanatory statement to the notice for the general meeting in terms of section 173 of the
Companies Act, 1956 shall contain -

1. the object/s of the issue through preferential offer,


2. intention of promoters/ directors/ key management persons to subscribe to the offer,
3. shareholding pattern before and after the offer,
4. proposed time within which the allotment shall be complete
5. the identity of the proposed allottees and the percentage of post preferential issue capital
that may be held by them.

13.1B A listed company shall not make any preferential issue of equity shares, Fully Convertible
Debentures, Partly Convertible Debentures7 or any other instrument which may be converted into or
exchanged with equity shares at a latter date if the same is not in compliance with the conditions for
continuous listing.

3. PREFERENCE SHARES

Preference shares, more commonly referred to as preferred stock, are shares of a company’s stock with
dividends that are paid out to shareholders before common stock dividends are issued. If the company
enters bankruptcy, the shareholders with preferred stock are entitled to be paid from company assets first.
Most preference shares have a fixed dividend, while common stocks generally do not. Preferred stock
shareholders also typically do not hold any voting rights, but common shareholders usually do.

There are four types of preference shares:

Cumulative preferred stock includes a provision that requires the company to pay preferred shareholders
all dividends, including those that were omitted in the past, before the common shareholders are able to
receive their dividend payments.

Non-cumulative preferred stock does not issue any omitted or unpaid dividends. If the company chooses
not to pay dividends in any given year, the shareholders of the non-cumulative preferred stock have no
right or power to claim such forgone dividends at any time in the future.

6 http://artfieldinvestmentsrdinc.info/blog/corporate-restructuring/
7 http://www.investopedia.com/ask/answers/05/070405.asp
Participating preferred stock provides its shareholders with the right to be paid dividends in an amount
equal to the generally specified rate of preferred dividends plus an additional dividend based on a
predetermined condition. This additional dividend is typically designed to be paid out only if the amount
of dividends received by common shareholders is greater than a predetermined per-share amount. If the
company is liquidated, participating preferred shareholders may also have the right to be paid back the
purchasing price of the stock as well as a pro-rata share of remaining proceeds received by common
shareholders.8

Convertible preferred stock includes an option that allows shareholders to convert their preferred shares
into a set number of common shares, generally any time after a pre-established date. Under normal
circumstances, convertible preferred shares are exchanged in this way at the shareholder's request.
However, a company may have a provision on such shares that allows the shareholders or the issuer to
force the issue. How valuable convertible common stocks are is based, ultimately, on how well the
common stock performs.

Where the preferential offer of shares or other securities is made by a company whose share or other
securities are listed on a recognized stock exchange, such preferential offer shall be made in accordance
with the provisions of the Act and regulations made by the Securities and Exchange Board. 9

It the shares or other securities of the company are not listed, the preferential offer shall be made in
accordance with the provisions of the Act and rules made hereunder.

Any company whether their shares or other securities are listed or not, shall comply with the following
requirements, namely:-

(a) The issue is authorized by its articles of association;

(b) The issue has been authorized by a special resolution of the members;

(c) The securities allotted by way of preferential offer shall be made fully paid up at the time of their
allotment.

(d) The company shall make the following disclosures in the explanatory statement to be annexed to the
notice of the general meeting pursuant to section 102 of the Act 10:

(i) The objects of the issue;

(ii) The total number of shares or other securities to be issued;

(iii) The price or price band at/within which the allotment is proposed;

(iv) Basis on which the price has been arrived at along with report of the registered valuer;

(v) Relevant date with reference to which the price has been arrived at;
8 http://financial-dictionary.thefreedictionary.com/Supervoting+Stock
9 Basel Committee on Banking Supervision [Minimum Capital Requirements
10 A Legal and Economic Analysis of the Preferential Allocation of Shares in Initial Public Offerings, Brooklyn Law
Review, Vol. 69, No. 2, pp. 583-649, 2004
(vi) The class or classes of persons to whom the allotment is proposed to be made;

(vii) Intention of promoters, directors or key managerial personnel to subscribe to the offer;

(viii) The proposed time within which the allotment shall be completed;

(ix) The names of the proposed allottees and the percentage of post preferential offer capital that may be
held by them;

(x) The change in control, if any, in the company that would occur consequent to the preferential offer;

(xi) The number of persons to whom allotment on preferential basis have already been made during the
year, in terms of number of securities as well as price;

(xii) the justification for the allotment proposed to be made for consideration other than cash together
with valuation report of the registered valuer;

(xiii) The pre issue and post issue shareholding pattern;

(e) The allotment of securities on a preferential basis made pursuant to the special resolution passed
pursuant to sub-rule (2)(b) shall be completed within a period of twelve months from the date of passing
of the special resolution.

(f) If the allotment of securities is not completed within twelve months from the date of passing of the
special resolution, another special resolution shall be passed for the company to complete such allotment
thereafter.

(g) The price of the shares or other securities to be issued on a preferential basis, either for cash or for
consideration other than cash, shall be determined on the basis of valuation report of a registered valuer;

(h) where convertible securities are offered on a preferential basis with an option to apply for and get
equity shares allotted, the price of the resultant shares shall be determined beforehand on the basis of a
valuation report of a registered valuer and also complied with the provisions of section 62 of the Act;

(i) where shares or other securities are to be allotted for consideration other than cash, the valuation of
such consideration shall be done by a registered valuer who shall submit a valuation report to the
company giving justification for the valuation;

(j) where the preferential offer of shares is made for a non-cash consideration, such non-cash
consideration shall be treated in the following manner in the books of account of the company-

(i) where the non-cash consideration takes the form of a depreciable or amortizable asset, it shall be
carried to the balance sheet of the company in accordance with the accounting standards; or

(ii) where clause (i) is not applicable, it shall be expensed as provided in the accounting standards.

Update by the Companies (Share Capital and Debentures) Amendment Rules, 2014 w.e.f 18 June 2014:
Till a registered valuer is appointed in accordance with the provisions of the Act, the valuation report shall
be made by an independent merchant banker who is registered with the Securities and Exchange Board of
India or an independent Chartered Accountant in practice having a minimum experience of ten years.

The price of shares or other securities to be issued on preferential basis shall not be less than the price
determined on the basis of valuation report of a registered valuer. [Sub – rule 3 of Rule 13]

Preference shares are instruments that have debt (fixed dividends) and equity (capital appreciation)
characteristics. Preference shareholders have a higher claim on assets (repayment of capital if company is
wound up) and earnings (dividends) than ordinary shareholders. Preference shareholders are paid fixed-
rate dividends before dividends are paid to ordinary shareholders. 11

Benefits of investing in preference shares:

• Repayment of capital, after payment of debt holders, if the company is wound up;

• Higher level of income for preference shareholders than debt holders because of a higher risk involved,
as preference shareholders are not always guaranteed a dividend payout;

• Preference shareholders have a better guarantee for a dividend payout than ordinary shareholders
because dividend payments are usually fixed;

• Preference shareholders are guaranteed a specified percentage dividends if the company makes a profit

Preferred stock (also called preferred shares, preference shares or simply preferreds) is a type of stock
which may have any combination of features not possessed by common stock including properties of both
an equity and a debt instrument, and is generally considered a hybrid instrument. Preferred stocks are
senior (i.e., higher ranking) to common stock, but subordinate to bonds in terms of claim (or rights to
their share of the assets of the company)[1] and may have priority over common stock (ordinary shares)
in the payment of dividends and upon liquidation.12 Terms of the preferred stock are described in the
articles of association.

Like bonds, preferred stocks are rated by the major credit-rating companies. The rating for preferreds is
generally lower than for bonds because preferred dividends do not carry the same guarantees as interest
payments from bonds and because preferred-stock holders' claims are junior to those of all creditors.

In general, preferred stock has preference in dividend payments. The preference does not assure the
payment of dividends, but the company must pay the stated dividends on preferred stock before paying
any dividends on common stock.

Preferred stock can be cumulative or noncumulative. A cumulative preferred requires that if a company
fails to pay a dividend (or pays less than the stated rate), it must make up for it at a later time. Dividends
accumulate with each passed dividend period (which may be quarterly, semi-annually or annually). When
a dividend is not paid in time, it has "passed"; all passed dividends on a cumulative stock make up a
dividend in arrears. A stock without this feature is known as a noncumulative, or straight, preferred stock;
any dividends passed are lost if not declared.
11 Investing Lesson 4 - Analyzing an Income Statement, By Joshua Kennon, Updated May 28, 2016
12 FSA Handbook, PRU 2.2 Capital resources Accessed July 31, 2006
Advantages of preference shares:

 No obligation for dividends: A company is not bound to pay a dividend on preference shares 13 if
its profits in a particular year are insufficient. It can postpone the dividend in case of cumulative
preference shares also. No fixed burden is created on its finances.
 No interference: Generally, preference shares do not carry voting rights. Therefore, a company
can raise capital without dilution of control. Equity shareholders retain exclusive control over the
company.
 Trading on equity: The rate of dividend on preference shares is fixed. Therefore, with the rise in
its earnings, the company can provide the benefits of trading on equity to the equity shareholders.
 No charge on assets: Preference shares do not create any mortgage or charge on the assets of the
company. The company can keep its fixed assets free for raising loans in future
 Variety: Different types of preference shares can be issued depending on the needs of investors.
Participating preference shares or convertible preference shares may be issued to attract bold and
enterprising investors.

Country-by-country perspectives: A comparative Analysis


Canada

Preferred shares represent a significant portion of Canadian capital markets, with over C$5 billion in new
preferred shares issued in 2005. Many Canadian issuers are financial organizations which may count
capital raised in the preferred-share market as Tier 1 capital (provided that the shares issued are
perpetual). Another class of issuer includes split share corporations. Investors in Canadian preferred
shares are generally those who wish to hold fixed-income investments in a taxable portfolio. Preferential
tax treatment of dividend income (as opposed to interest income) may, in many cases, result in a greater
after-tax return than might be achieved with bonds. 14

Preferred shares are often used by private corporations to achieve Canadian tax objectives. For instance,
the use of preferred shares can allow a business to accomplish an estate freeze. By transferring common
shares in exchange for fixed-value preferred shares, business owners can allow future gains in the value
of the business to accrue to others (such as a discretionary trust).

Germany

The rights of holders of preference shares in Germany are usually rather similar to those of ordinary
shares, except for some dividend preference and no voting right in many topics of shareholders' meetings.
Preference shares in German stock exchanges are usually indicated with V, VA or Vz (short for

13 Standard & Poor's [13] 2009-08-27


14 eurex circular 036/07" (PDF). Frankfurt: Eurex Deutschland. 2007-02-27. p. 1. Retrieved 6 May 2010.
Vorzugsaktie)15—for example, "BMW Vz"—in contrast to St, StA (short for Stammaktie) or NA (short for
Namensaktie) for standard shares.[13] Preference shares with multiple voting rights, e.g. at RWE or
Siemens, have been abolished.

Preferred stock may comprise up to half of total equity. It is convertible into common stock, but its
conversion requires approval by a majority vote at the stockholders' meeting. If the vote passes, German
law requires consensus with preferred stockholders to convert their stock (which is usually encouraged by
offering a one-time premium to preferred stockholders). The firm's intention to do so may arise from its
financial policy (i.e. its ranking in a specific index). Industry stock indices usually do not consider
preferred stock in determining the daily trading volume of a company's stock; for example, they do not
qualify the company for a listing due to a low trading volume in common stocks.

United Kingdom

Perpetual non-cumulative preference shares may be included as Tier 1 capital. Perpetual cumulative
preferred shares are Upper Tier 2 capital. Dated preferred shares (normally having an original maturity of
at least five years) may be included in Lower Tier 2 capital.

United States

In the United States, the issuance of publicly listed preferred stock is generally limited to financial
institutions, REITs and public utilities. Because in the U.S. dividends on preferred stock are not tax-
deductible at the corporate level (in contrast to interest expense), the effective cost of capital raised by
preferred stock is 35 percent greater than issuing the equivalent amount of debt at the same interest rate.
This has led to the development of TRuPS: debt instruments with the same properties as preferred stock.
With the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010, TRuPS
will be phased out as a vehicle for raising Tier 1 capital by bank holding companies. Outstanding TRuPS
issues will be phased out completely by 2015.

However, with a qualified dividend tax of 15 percent (compared to a top ordinary marginal tax rate of 35
percent), $1 of dividend income taxed at this rate provides the same after-tax income as approximately
$1.30 in interest. The size of the preferred stock market in the United States has been estimated as $100
billion (as of early 2008), compared to $9.5 trillion for equities and US$4.0 trillion for bonds.

Other countries:

In Nigeria preference stock make up a small percentage of company stock with no voting rights except in
cases were they are not payed dividend and they are entitled to a greater percentage of the company
profits.

Czech Republic—Preferred stock cannot be more than 50 percent of total equity.

15 Stammaktie, Vorzugsaktie, Inhaberaktie, Namensakti Die Arten von Aktien" (in German). 2004-03-24. Retrieved
6 May 2010.
France—by a law enacted in June 2004 France allows the creation of preferred shares.

South Africa—Dividends from preference shares are not taxable as income when held by individuals.

Brazil—In Brazil, up to 50 percent of the capital stock of a company may be composed of preferred
stock. The preferred stock will have at least one less right than the common stock (normally voting
power), but will have a preference in receiving dividends 16

Russia—No more than 25% of capital may be preferred stock. Voting rights are limited, but if dividends
are not fully paid, shareholders obtain full voting rights.

Provisions That Can Influence Preferred Stock Value:

There are a number of additional provisions that can affect the value of a preferred stock. Here are just a
few:

Voting vs. Non-Voting: Owners of preferred stock may or may not have voting rights. There have been
cases throughout history in which preferred shares only received voting rights if dividends had not been
paid for a stipulated length of time, effectively transferring a significant, if not controlling, voting power
to the preferred investors. Such a provision effectively puts the preferred shareholders in the position of a
first mortgage bond holder by giving them the collective power to enforce payment on their claim,
resources permitting. This is frequently done in certain private equity deals, special financing
arrangements with public companies, or other non-standard situations where the de facto lender doesn't
want to pay the substantially higher taxes that would be owed on interest income had bonds been issued.

Adjustable rate preferred stock: Holders of the preferred stock receive a dividend that differs based on any
number of factors stipulated by the company at the issue's initial public offering. Over the course of the
past decade, it has become fairly common for new preferred stock issues to have floating rate dividends to
reduce the interest rate sensitivity and make them more competitive in the market.

Convertible preferred stock: Holders of this type of security have the right to convert their preferred stock
into shares of common stock. This allows the investor to lock in the dividend income and potentially
profit from a rise in the common stock while being protected from a fall in the same. Under the right
conditions, with the right business, an intelligent investor can make a lot of money while enjoying higher

16 Kieso, Donald E.; Weygandt, Jerry J. & Warfield, Terry D. (2007), Intermediate Accounting (12th ed.), New York:
John Wiley & Sons, p. 738
income and lower risk by investing in the convertible preferred stock first. To learn more about how this
works, read Convertible Preferred Stock17 for Beginners.

Participating preferred stock: Normally, shares of this type of preferred stock receive a set dividend plus
an additional dividend based upon a stipulated percentage of either the net income or the dividend paid to
the common stockholders.

The variations for preferred stock can be endless. It is quite possible an investor could come across a non-
voting cumulative participating convertible preferred issue. Due to the individuality of the preferred stock
field, we must stick to generalizations.

4. SIGNIFIANCE TO INVESTORS

Preference shares are an optimal alternative for risk-averse equity investors. Preference shares are
typically less volatile than common shares and offer investors a steadier flow of dividends. Also,
preference shares are usually callable; the issuer of the shares can redeem them at any time, providing
investors with more options than common shares. Investors looking for a hybrid debt and equity
investment exposure.

Investors looking for medium risk and return (risk is higher than debt instruments but lower than
ordinary shares)

In many ways, the insulation preferred stock appears to offer shareholders can seem attractive. The truth
is, preferred stock probably doesn't make much sense for individual investors.

On the other hand, preferred stock investments can be a goldmine for corporate portfolios. Why? Federal
tax laws only require companies to pay income tax on 30% of their preferred dividends, meaning a full
70% is essentially tax-free! This exemption is not available to individual investors. Your portfolio will
probably receive a higher after-tax yield by investing in corporate bonds when rates are attractive enough
or municipal bonds if you are in a higher tax bracket (to determine which, you need to calculate
something known as the taxable equivalent yield). Equally as important is the fact that, as a bond investor,
you will likely receive a senior claim in such investments 18 as opposed to the subordinate position offered
by most preferred stocks.

17 Understanding New Cooperative Models: An Ownership–Control Rights Typology Fabio R. Chaddad, assistant
professor and Michael L. Cook, Professor of Cooperative Leadership
18 Organizational Behaviour Research in Rural Producers' Cooperatives: A Neglected Domain International Journal
of Rural Management (2015) 11 (1): 40-59
No matter what you do, it might be wise to remember the adage of legendary investor, teacher, and money
manager Benjamin Graham who emphatically stated that it was almost always a mistake for an investor to
buy a preferred stock issue at or near par value as history has repeatedly shown, if he or she is patient
enough, the opportunity to own it at substantially reduced values will most likely present themselves.

5.CONDITIONS FOR EDEMEPTION OF PREFERENCE SHARES

Redemption of preference shares means returning the preference share capital to the preference
shareholders either at a fixed date or after a certain time period during the life time of the company
provided company must complied certain conditions.

According to Section 100 of the Companies Act 1956, a company is not allowed to return to its
shareholders the share money without the permission of the court. A refund of money to shareholders on
capital account, while the company is in existence, requires court’s sanction in addition to the special
procedure. But Section 80 of the Companies Act allows a company, if authorized by its articles to issue
preference shares which at the option of the company may be redeemed, if the conditions as laid down
under this Section are to be satisfied.

The following are the important provisions regarding the redemption of preference shares which are given
under Section 80 of the Companies Act19:

(1) Company must be authorized by its articles of association.

(2) No such shares shall be redeemed unless they are fully paid up. The partly paid up shares cannot be
redeemed. If they are partly paid in that case a final call be made to convert them from partly paid to fully
paid only then redemption can be carried out.

(3) Such shares can be redeemed

(a) Out of the profit of the company which would otherwise be available for the dividend; or

(b) Out of the proceeds of a fresh issue of shares made for the purpose of redemption.

(4) If the shares are redeemed out of profits available for the distribution for dividend, a sum equal to the
nominal amount of the shares so redeemed must be transferred to reserve account to be called ‘Capital
Redemption Reserve Account’

(5) If preference shares are redeemed at premium, then such premium must be provided either out of the
profits of the company or out of the company’s security premium account.

(6) The Capital Redemption Reserve Account can be utilized for the issue of fully paid bonus shares to
the shareholders.

Redemption of preference shares by a company is not taken as reducing the amount of its authorized
share capital and as such provisions of the act with regard to reduction of capital are not required to be
complied with. Shares already issued of other type can not be converted into redeemable preference
shares. No company limited by shares shall, after the commencement of the companies (amendment Act,

19 Corporate governance and voluntary disclosure, Volume 22, Issue 4, July–August 2003, Pages 325–345
1996), issue irredeemable preference shares or redeemable preference shares which are Redeemable after
20 years of its issue. If company fails to comply with these provisions, the company and every officer of
the company who is in default shall be punishable with fine which may extend to Rs. 10,000. Redemption
of redeemable preference shares20 shall be notified to the registrar of companies within one month of
redemption.

Redemption of Preference Share - A company may issue this type of shares on the condition that the
company will repay the amount of share capital to the holders of this category of shares after the fixed
period or even earlier at the discretion of the company. Section 80 of the Companies Act, 1956 deals with
the redemption of preference shares.

Profits available for dividend or the profit out of which the Capital Redemption Reserve Account is
allowed:

The Companies Act permits the redemption of shares from out of the profits, which are otherwise
available for dividend. In case the redemption is out of profits, the company is expected to transfer an
equal amount to an account called ‘Capital Redemption Reserve Account’ out of divisible profits. The
following are the profits which are available for dividend or the profit out of which the Capital
Redemption Reserve Account is allowed.

Central Idea:

Whatever be the source of funds for redemption, the original paid up capital of the company must not be
reduced by a single rupee. Redemption should not affect adversely the interests of the creditors.

It can happen as follows:

If a company redeems preference shares and soon after, it goes into liquidation, if the amount available is
not sufficient in that case though preference shareholders got their full dues whereas the creditors
suffered. It is not allowed under law. Creditors must get priority over the shareholders. Therefore the
Companies Act has laid down manifold conditions for the redemption of preference shares.

20 Audit committee activity and agency costs, Volume 18, Issues 4–5, Winter 1999, Pages 311–332
CONCLUSION

Indian corporate managements have never had it so good. Over the last couple of years, with
active support from politicians, regulators and the finance ministry, they have wrangled the
freedom to increase or decrease at will, the capital of companies that they control. This means in
effect that the company can raise money, and the founders can get fabulously rich, by selling
stock to the public, but even with a tiny minority of the shares, the founders will control the
company. And the public shareholders can't do anything about it.

Democracy is actually a good solution to this. If we're all going to McDonald's, and we all have
to get the same thing, it should be decided by majority vote. But it's even better if we each can
get what we want. And you can be fairly confident that a majority of McDonald's customers
prefer hamburgers, while a majority at Popeye's prefer chicken. You don't have to require a vote.

Advocates of shareholder democracy believe it will lead to companies that care more for the
environment, treat their workers better and so on. Well maybe, maybe not. In a world of perfect
corporate democracy, in which large public companies are required to pursue only those goals
that can be agreed upon by the owners of a majority of the publicly traded shares at any moment,
the most likely result would be companies focused exclusively on maximizing profits.

Requiring shareholder democracy actually stifles it. Why shouldn't shareholder democracy
include the right to decide whether you want shares in a company that practices shareholder
democracy?

A preferential issue is an issue of shares or of convertible securities by recorded organizations to a select


gathering of people under Section 81 of the Companies Act, 1956 which is neither a rights issue nor an
open issue. This is a quicker path for an organization to raise value capital. The guarantor organization
needs to conform to the Companies Act and the necessities contained in Chapter relating to special
apportioning in SEBI (DIP) rules which between alia incorporate evaluating, exposures in notice and so
forth. Special Allotment is the procedure by which designation of securities/shares is done on a particular
premise to a select gathering of speculators. Inclination shares are viewed as a half and half instrument as
they are semi obligation and semi value. They permit a financial specialist to possess a stake in the
issuing organization with a condition that at whatever point the organization chooses to pay profits, the
holders of the inclination shares will be the first to be paid.

BIBLIOGRAPHY

1. Audit committee activity and agency costs-Paul Collier, Alan Gregory, Volume 18, Issues 4–5,
Winter 1999, Pages 311–332
2. Preference shares Features, Types and Other Details Article shared by RC Agarawal
3. Kieso, Donald E.; Weygandt, Jerry J. & Warfield, Terry D. (2007), Intermediate Accounting (12th
ed.), New York: John Wiley & Sons, p. 738, ISBN 0-471-74955-9.
4. CCH Incorporated Marginal and Effective Tax Rates Accessed September 18, 2006
5. Basu & Das (2006). Practice in Accountancy, Calcutta, Rabindra Library.
6. Bhattacharyya (2008). Essentials of Financial Accounting, New Delhi, PHI.
7. Gupta. R.L., & Gupta, V.K. (2006). Principles and Practice of Accountancy, New Delhi, S. Chand
& Co.
8. Jain & Narang (2007). Advanced Accountancy, New Delhi, Kalyani Publishers.
9. FSA Handbook, PRU 2.2 Capital resources Accessed July 31, 2006
10. Taxmann’s Companies Act 2013
11. Basel Committee on Banking Supervision [Minimum Capital Requirements
http://www.bis.org/publ/bcbs128b.pdf] Accessed 2007-1-12