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Before understanding what equity, shares are, it is imperative to understand what ‘shares’ are.A ‘share’ is the smallest, indivisible fraction in the ownership of a company. An investor pays an amount in exchange for ownership rights in the company and the amount generally stays with the company throughout its lifetime. The investors are paid returns on the shares in the form of a ‘dividend’, which is a share in the profits of the company and may fluctuate accordingly.Ownership rights that come with buying a share of a company include voting rights, the right to attend the AGM of the company, right to the company’s financial statements, right in the company profits, etc.‘ Equity shares ’ is one of the most widely used terms in the stock market . Also known as ordinary shares, these are the main source of capital for an organization. In fact, they are the most common type shares issued to the public. Read on to know more about them and their various aspects.
Equity shares represent ownership in a company
When you invest in equity shares, you become a fractional owner of the company. As an owner of equity shares, you have the right to vote in the annual general meetings of a firm and have a say on the working of the company.Also, as an equity shareholder, you are entitled to receive dividends from the company. However, it’s important to note that the rate of dividend isn’t fixed and the pay-out depends on the firm’s discretion.
Features of equity shares
- Permanent in nature These shares are permanent in nature. In other words, these shares are the permanent assets of a company and are returned only when it winds up business.
- Transferable and dividend pay-out This is another feature of equity shares. You can transfer the ownership of these shares to any other person. Also, note that the dividend pay-out depends on the availability of surplus funds with the company. So, in cases, when a company fails to make enough profits, it may not have the surplus capital to pay out dividends to the shareholders.
- Potentially high returns Since equity shares are riskier, they have the potential to offer higher returns on investment. Hence, if you have a high risk-appetite, then you can opt for these shares to earn greater returns.
Advantages of investing in equity shares
- Provides creditworthiness As an investor, when you do own equity shares of a firm, the same can act as collateral, should you require any loan for various needs. As equity shares reflect creditworthiness of a firm, there are chances of your loan being easily approved.
- Highly liquid Liquidity is a crucial factor which you must take into account before investing in any financial instrument. It refers to the ease with which you can convert your investment into cash. Equity shares are highly liquid and can be easily sold in the capital market, should the need arise. So, in case you need funds for any emergency, you can liquidate your equity shares with ease.
- Say in the company’s affair As an equity shareholder, you have a say in the company’s scheme of things. In other words, you are the real owner of the firm, since you’ve voting rights.
When you buy a share of a firm, generally it’s the equity share. As an equity shareholder, not only you give yourself the chance to earn high returns but also residual income.
FAQS - FREQUENTLY ASKED QUESTIONS
What are the different types of shares ?
There are primarily 5 types of shares:
Equity shares or common stock: The most basic and common form of share that are treated as owned capital of the company
Preference shares: These shares pay a dividend at a fixed rate and time and such shareholders get a preference of compensation over equity shareholders at the time of the liquidation of the company. The pricing of these shares is also higher than equity shares.
Bonus shares: These are extra shares issued to existing shareholders when the company decides to integrate some of their retained profit into the company. These shares are issued free of cost and in proportion to existing shares.
Right shares: When the company needs extra finances, like bonus shares, it issues right shares to existing shareholders, not free of cost, but at a discounted rate. These are issued for a limited time.
Sweat equity shares: These are the non-cash remuneration offered to directors or certain employees of the organization in consideration of their intellectual input or any technical know-how.
What is the difference between equity share and preference share ?
The main difference between equity and preference stock is in the returns received from them and the participation rights that come with them.
Equity shares are called residual shares as they are the last to be paid dividend or redeemed at liquidation. Preference shares are given priority with dividend payments and redemption.
Equity shares receive voting rights in the company decisions but preference shares may or may not come with this benefit.
Equity shares are irredeemable during the lifetime of the company but certain types of preference shares may be redeemable.
What is the risk in equity shares ?
Equity shares are said to be risky. This is because the valuation as well as the dividend payment on the equity shares depend on the profit the company earns over time. If the company suffers a loss, the equity capital and the equity dividend take the direct and first hit. They are also called residual shares as they are the last ones to be redeemed on the account of liquidation. In such a case, there might not be any finances left with the company to redeem equity shares.
Are equity shares profitable ?
Profits from equity shares may be earned in either the form of dividend provided by the company or in the form of capital appreciation. The dividend is paid from company profits, which makes it slightly risky in case the company doesn’t make a profit. Capital appreciation is when the prices of the stock ascend in the market. Usually, investors buy shares at a low price and, as the rates go up, sell some or all of their shares and earn the difference in the prices. Equity shares, if judged correctly, have also been seen to facilitate wealth creation and beat the rate of inflation.
Is equity shares tax free ?
Income from the sale of equity shares is treated as ‘Capital Gains’ These capital gains may be ‘long term’ or ‘short term’ based on the holding period of the stock. If an investor sells his stock at a higher rate than when they bought it, within 12 months of buying it, the profit earned is treated as Short Term Capital Gain (STCG). Such profit is taxed at 15%. Any profit earned from selling stock over 12 months after buying them is treated as ‘Long Term Capital Gains’ (LTCG). Before the 2018 Budget, any LTCG made from sale of equity or equity linked mutual funds was exempt from being taxed. However, since 2018, LTCG from equity and stock is taxed at 10% over the threshold of Rs. 1 lakh.
How is equity calculated ?
Calculating equity is considerably easy. It is simply subtracting the total liabilities from the total assets of a company. All the financial records of a company can be found in the balance sheet and other financial statements that the company has to release to the public.
Which is better, stock or equity ?
Stock and equity are the very same thing. ‘Stocks’ is an alternative term used for equity shares; along with ordinary shares and common stock.
The information contained herein is generic in nature and is meant for educational purposes only. Nothing here is to be construed as an investment or financial or taxation advice nor to be considered as an invitation or solicitation or advertisement for any financial product. Readers are advised to exercise discretion and should seek independent professional advice prior to making any investment decision in relation to any financial product. Aditya Birla Capital Group is not liable for any decision arising out of the use of this information.
