What are Shares and Types of Shares?
To be a successful share market investor, you need to understand various investment options available to you like shares, bonds, debentures, etc. Of these, shares offer an opportunity to earn good returns on your investments. However, before you start your journey as a share market investor, it is important to understand what you are investing in.
In this article, we will answer some fundamental questions that every investor in the share market should ask, like what are shares? What are the types of shares? This will help you understand the share market better and make informed decisions.
What are Shares?
One of the most basic questions that every share market investor should know an answer for is: what is the meaning of Share?
When a private limited company wants to raise funds for any business purpose, it can either opt for a loan or raise funds through the public by issuing shares or bonds. When it issues shares, it accepts money from the public and makes them a shareholder (a kind of partner) in the company with predefined rights. Shareholders are partners in profits and also face the impacts of losses made by the company.
So, the simple answer is that a Share is a unit of ownership in a company that is purchased by the shareholder.
Types of Shares
Shares can be broadly divided into two types. These are:
- Equity shares
- Preference shares
Equity shares are commonly referred to as ordinary shares. They are usually the bulk of the shares issued by a company. Equity shareholders have a right to receive a share of the profits made by the company in the form of dividends. They also have voting rights in the company. However, the company can choose to reinvest its profits into the business and not declare dividends.
Equity shares can be further classified into various kinds of shares as described below:
- Rights Shares – Before a company floats new shares in the market, it offers them to its existing shareholders. These are called Rights shares.
- Bonus Shares – A company can issue shares instead of dividends. These are called Bonus shares.
- Non-voting shares – While ordinary shares having voting rights, there can be shares where the company issues differential or no voting rights with equity shares.
- Employee Stock Option Plan (ESOP) – A company can offer its shares to its employees at a price lower than the market price for a specific period. This is known as an ESOP.
- Sweat Equity Shares – Not to be confused with ESOPs, Sweat Equity Shares are issued to the employees of an organization as a reward for their contribution. These can be allotted free or for a small consideration.
- Dividend shares – These shares belong to companies that have a track record of declaring regular dividends.
- Growth shares – These shares belong to companies that generate profit but don’t declare dividends. Instead, they invest the profits in the business for exponential growth in the future.
- Value shares – Since the price of a share is determined by its perceived value by investors, there are some shares that are traded below their intrinsic value. These stocks are called value stocks since they are likely to have a higher long-term return potential.
As the name suggests, preference shareholders get preference in receiving profits from the company compared to ordinary shareholders. They also receive preference if the company liquidates.
Preference shares can be further classified into various kinds of shares as described below:
- Convertible and Non-convertible – Some companies allow preference shareholders to convert their shares into equity shares provided they meet certain stipulations. These are convertible preference shares. Non-convertible preference shares have no such option.
- Participating and Non-participating – Participating preference shareholders have the right to receive profits over and above dividends from the company. Non-participating preference shareholders have no such rights.
- Cumulative and Non-Cumulative – If a company does not declare a dividend during a financial year, then for cumulative preference shareholders, the benefit is carried forward to the next year. This benefit is not available to non-cumulative preference shareholders.
- Redeemable and Irredeemable – Redeemable preference shares can be claimed or repurchased by the company at a fixed price and time.
Also Read: What are Different Types of Share Trading Orders?
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Frequently Asked Questions
Equity shares are also called ordinary shares and usually confer voting right on the shareholder while providing the right to profits made by the company. These are usually the most common types of shares issued by a company. A preference shareholder has preferential rights over profits and even at the time of liquidation of the company.
Broadly speaking, there are two types of shares – Equity and Preference. Equity shares are the most common types of shares issued by companies and traded on stock exchanges.