Redemption of Preference Shares
Preference shares: Sec. 43 (b) of the Companies Act, 2013 defines preference shares as those shares which carry preferential rights as the payment of dividend at a fixed rate and as to repayment of capital in case of winding up of the company. Thus, both the preferential rights viz.
(a) Preference in payment of dividend and
(b) Preference in repayment of capital in case of winding up of the company, must attach to preference shares.
The rate of dividend on these shares is fixed and the dividend on these shares must be paid before any dividend is paid to ordinary shares. Directors, however, may decide not to pay any dividend to any class of shareholders even if there are sufficient profits. But, if any how, they decide to pay the dividend, preference shareholders will get the priority to pay the ordinary shareholders.
Following are the basic features of preference share:
a) Fixed rate of dividend
b) Preferential payment of dividend
c) Preferential right in redemption of capital in case of winding up of a company.
d) Absence of voting rights
Advantages of Preference shares
1. Helpful in raising long term capital for a company.
2. There is no need to mortgage property on these shares.
3. Redeemable preference shares have the added advantages of repayment of capital whenever there is surplus in the company.
4. Rate of return is guaranteed.
Disadvantages of Preference shares
1. Permanent burden on the company to pay a fixed rate of dividend before paying anything on the other shares.
2. Not advantageous to investors from the point of view of control and management as preferences shares do not carry voting rights.
3. Compared to other fixed interest bearing securities such as debentures, usually the cost of raising the preference share capital is higher.
Conditions for redemption of Preference Shares:
Under section 55 of the Companies Act, 2013, a company should have to follow the conditions:
1. No authorization is required in the articles to redeem the preference shares of a company.
2. The redeemable preference shares must be fully paid up. If there is any partly paid share, it should be converted in to fully paid shares before redemption.
3. The redeemable preference shareholders should be paid out of undistributed profit/ distributable profit or out of fresh issue of shares for the purpose of redemption.
4. If the shares are redeemed at a premium, it should be should be provided out of securities premium or out of profits of the company.
5. The proceeds from fresh issue of debentures cannot be utilized for redemption.
6. The amount of capital reserve cannot be used for redemption of preference shares.
7. If the shares are redeemed out of undistributed profit, the nominal value of share capital, so redeemed should be transferred to Capital Redemption Reserve Account. This is also known as capitalization profit.
8. CRR may be utilised only for the purpose of issuing fully paid bonus shares to the members.