One of the many ways in which companies raise funds for their business operations is by issuing ordinary shares. As an investor, you need to understand the meaning of ordinary shares, their key features and how they differ from the other types of shares that companies are authorised to issue.
What are ordinary shares?
Ordinary shares, also known as equity shares or common shares, are a type of share that companies are authorised to issue as per the Companies Act, 2013. These shares represent ownership in a company and provide its holders with certain rights, such as the right to vote on company matters in general meetings.
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Understanding ordinary shares
Now that you have seen what ordinary shares are, let us delve a little deeper and try to understand the concept better.
Each ordinary share represents a fraction of ownership in the issuing company. This essentially means that the greater the number of ordinary shares you own, the greater the ownership and, therefore, the control over the company you would have.
Assume there is a company called ABC Limited. The company has issued around 3 lakh ordinary shares to the public. You, as an investor, have purchased 2.10 lakh shares of the company. This essentially means that you own 70% of the company, which gives you complete control over the business operations.
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Key features of ordinary shares
Ordinary shares have a few key features that set them apart from the other classes of shares. Here is a quick overview of some of their unique characteristics.
- Ownership
As you have already seen, holders of ordinary shares can claim ownership of the company. The proportion of ownership in the company is dependent on the number of shares they hold. - Voting rights
Since ordinary shareholders are considered to be part-owners of the company, they get the right to vote in general meetings. This allows them to actively participate in the decision-making process of the company. Usually, companies provide one vote to each ordinary share. This means that the greater the number of shares you own, the higher your voting power will be. However, some companies may choose to give more or less voting power per share as well. - Dividends
Holders of ordinary shares are also eligible to receive the profits generated by the company in the form of dividends. However, such profit distributions are not guaranteed and are completely at the company’s discretion. Fundamentally strong companies with good financials generally tend to distribute dividends regularly to their ordinary shareholders. Some companies, however, may choose to reinvest the profits back into the company instead of paying them out as dividends. - Capital appreciation
The prices of ordinary shares may increase over time, especially if the company performs well consistently and the market conditions are favourable. An increase in the share price would lead to an increase in the value of investments. This capital appreciation ability is one of the many reasons why investors choose to invest in the equity shares of companies. - Entitlement to the residual value of the company
In the case of liquidation or winding up of the company, ordinary shareholders are entitled to the company’s residual value. The residual value is the money left over after paying off all creditors and discharging the company’s financial obligations.
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Ordinary shares vs preference shares
In addition to ordinary shares, companies are also authorised to issue another class of shares known as preference shares. Understanding the differences between these two categories is crucial for making informed decisions. Here is a table comparing these two classes of shares.
Particulars |
Ordinary Shares |
Preference Shares |
Voting Rights |
Come with voting rights, allowing shareholders to influence business decisions |
Usually do not carry any voting rights |
Dividend Payments |
Dividends are not fixed or guaranteed; the payments are at the company’s discretion |
Dividends are fixed and guaranteed |
Priority |
Ordinary shareholders are paid last, after discharging all other obligations |
Preference shareholders are prioritised over ordinary shareholders |
Risk and Return |
Carry a higher level of risk, but the potential for returns is also high |
Carry a lower level of risk due to fixed and guaranteed dividend payments, but the return potential is also low |
Conversion |
Cannot be converted into any other type of shares |
Can be converted into equity shares after the expiration of a set period. |
With this, you must now be aware of the differences between ordinary shares and preference shares. Although both of these shares represent proportional ownership in the company, they differ quite a bit in the way they are structured and the features they possess.
Conclusion
Ordinary shares, or equity shares, are the most common type of shares that companies often issue. Investors who buy these shares are entitled to participate in the decision-making process since they are considered to be the company’s owners. They also get to benefit from potential capital appreciation by way of an increase in the price of the shares.
However, it is essential to note that many factors influence the prices of equity shares. These include financial performance, macroeconomic situations, industry trends, investor sentiment, government policies and even geopolitical scenarios. Therefore, if you are planning to buy the shares of a company, you must ensure that you thoroughly analyse all of the factors that could influence its prices and the various risks involved before investing. This way, you can ensure that you invest in the right company and effectively protect yourself from the impact of market downsides.
