What is an equity share and why is it important to know its types, benefits, and drawbacks? My Business discusses the importance of thoroughly understanding equity shares and the benefits that they can bring business owners and their businesses.
Formerly known as “ordinary shares”, equity shares are a company’s main source of finance. It enables and gives investors the rights to vote, claim assets, and share profits.
An equity finance starts a company and is the company’s first source of capital. After some time and with considerable growth, more capital may be needed for continued development and expansion. The company will need to look for investors—mutual funds, venture capitals, even family and friends—to whom equity shares will be issued to.
Once the company reaches a considerably huge level of growth and expansion, it will issue equity shares to the general public. The first offering is called the Initial Public Offer (IPO) and any succeeding ones are known as Follow-on Public Offer(s) (FPO).
Equity shares are permanent in nature. The owners of the company are the equity shareholders. As shareholders, that know that they can bear the highest risk but also can enjoy the biggest benefits. Equity shares can be moved and transferred without consideration to the other people involved.
Equity shareholders are not given and cannot expect a fixed rate of dividend(s) as dividends are subject to profit appropriation. One’s investment(s) defines and determines the scope of an equity shareholder’s liability.
Types of equity shares
There are various types of equity shares:
- Authorised share capital
- Bonus share
- Issued share capital
- Paid up capital
- Rights share
- Subscribed share capital
- Sweat equity share
Authorised share capital
Seeing increases from time to time, authorised share capital is the highest amount of capital issued by a company. It is otherwise known as nominal capital or registered capital.
These shares are given to shareholders as dividends. Bonus share can entail advantages and disadvantages, which includes limited liability, dividend, capital gain, fluctuations in the market, and higher risks.
Issued share capital
Issued share capital is part of the authorised capital issued to investors or the sum amount of shares issued to shareholders. It is related to outstanding shares, or the shares owned by investors in a defined present period.
Paid up capital
This equity share is the amount the company has received in exchange for stock shares from its shareholders. It is only created when the company itself sells shares directly to investors via the primary market.
When shares are sold and bought between or among investors via the secondary market, there is no additional paid-up capital. Proceeds of the said transaction(s) do not go to the issuing company but instead go directly to the selling shareholders.
This type of equity share is issued with the aim to protect the investors’ ownership rights. They are issued to the company’s existing shareholders.
Subscribed share capital
The company issues part of its capital as subscribed share capital—investors have the prerogative whether to subscribe or not to all of the company’s shares. The subscribed share capital is the total monetary value of the shares investors are interested in or have expressed interest in.
Sweat equity share
This equity share is issued to directors or employees. As a form of a reward, sweat equity shares are issued to individuals who have demonstrated exceptional professionalism, skills, and talents in providing the necessary knowledge to the company’s business knowledge reservoir or to the company’s intellectual property rights in their roles and capacities.
Value of equity shares
Not only does equity share come in several types, it is also valued at different prices:
- Book value
- Issue price
- Market value
- Par/face value
- Share premium and share at a discount
Book value is the balance sheet value of the company’s shares. It is computed by dividing the ratio of the total reserves, surplus, and paid-up capital by the total number of the company’s shares.
The price of the equity share(s) offered to investors. In most newly founded and built companies, the issue price is the same as the face value of a share.
This price concerns shares that are listed on a stock exchange or stock exchanges. Market value is the present price of a share that is currently being sold in the market.
It is what appears in books of accounts for the value/price of a share.