Key Takeaways:

  • Shares represent units of ownership in a company and can be issued in different types, including equity and preference shares.
  • Characteristics of shares include transferability, numbering, and the non-refundable nature of capital contributions.
  • Additional share classifications include authorized, issued, bonus, and right shares, among others.
  • Understanding share trading, valuation, and associated risks is critical for both investors and business owners.
  • Legal structures, shareholder rights, and dividend priorities vary by share type.

To define shares and its types, one needs to have a basic understanding of shares and their purpose and role in a company. Shares are a standard instrument for raising capital for a business by distributing them among interested investors.

The Definition of a Share

The definition of a share includes the capital or stock of a company. Each business has a share capital requirement. A share is a single unit within the entire capital of the company.

A share is also a type of security. It is often measured by its liability and interest. Members that own shares of a company are referred to as shareholders. They are investors that have invested funds into the business. In return, they will receive dividends on the profits of the business.

The Characteristics of a Share

Shares operate under the following characteristics:

  • A share should be moveable. The rules for share transfer must be included in the company's Articles of Incorporation.
  • The funds used to purchase a share are non-refundable. This, however, will be affected by business dissolution or capital reduction.
  • Each share must be assigned a number. This helps to track and monitor individual shares. This requirement, however, is not present in all shareholder agreements.

Types of Shares

There are also different types of shares available within a company:

  • Preference shares: Preference shares have preferential rights to dividends if a business closes. Preference shares do not have voting rights available, except in specific situations.
  • Equity shares: Equity shares do not have preferential rights. Instead, they receive payment from dividends and repayment of capital after preference shares' claims were settled. The specific rate of return is decided by the board members and directors. Equity shares are often used to raise money for the company and are referred to as the owner's funds. It is possible that an equity share will not pay any dividends if the business does not profit. While preference shareholders get a fixed rate, equity shareholders may receive varying payments each year. Equity shareholders are often owners of the company and have regular voting rights available. They may also be subject to things like deferred shares or founder's shares.
  • Cumulative preference share: A cumulative preference shareholder does not receive payment when a profit is not made. However, cumulative shares may be paid through unpaid dividends. A cumulative preference shareholder is only paid after other shareholders have been paid. If no funds remain, then they will not receive a payment that year.
  • Non-cumulative preference shares: Non-cumulative preference shareholders have preferential shareholder rights and receive a fixed dividend payment. However, they are only paid if profits remain. If no profits left, the owed amount is not carried over to the following years.
  • Redeemable preference shares: Any capital collected from selling shares is not paid to a shareholder. But, any capital raised through preference shares can be paid to the shareholder at the end of the period. There may be time limits on these redeemable shares, which sometimes exceed 10 years or more.
  • Participating/Non-participating preference shares: These shares are paid through a combination of profits and fixed rates. Once all profits have been paid to shareholders, any extra money is divided equally among these shareholders.
  • Convertible preference shares: Convertible preference shares can be converted into equity shares at a preset time. All conversions must be approved based on the regulations set in the company Articles of Incorporation.

Structure of Equity Shares

Equity shareholders are often owners or operating partners in the business. Their shares are considered venture capital and are one of the most common types of shares within a business. They do not risk the funding of a company because equity shareholders are not paid unless profits are made. They are important to the structure of the business because they raise funds that are needed to grow and operate the business.

Additionally, an equity shareholder is not paid until all other types of shareholders are paid. Dividend payment amounts are often based on how much the company has profited. Equity shareholders are ideal for investors that want a little more risk in return for the possibility of a higher payout.

Additional Classifications of Shares

In addition to preference and equity shares, companies may classify shares based on how and when they are issued. Common types include:

  • Authorized Share Capital: The maximum number of shares a company is legally allowed to issue, as stated in its corporate charter.
  • Issued Shares: The portion of authorized shares that have been issued to shareholders.
  • Subscribed Shares: Shares that investors have committed to buying but have not yet fully paid for.
  • Paid-up Shares: Shares for which investors have paid the full issue price.
  • Bonus Shares: Issued free of cost to existing shareholders, typically from retained earnings.
  • Rights Shares: Offered to existing shareholders at a discount, allowing them to maintain their ownership percentage.
  • Sweat Equity Shares: Issued to directors or employees at a discount or for non-cash consideration, often as a reward for contributions.

These categories help companies manage capital efficiently and reward or attract stakeholders strategically​​.

How Share Trading Works

Shares of public companies are traded on stock exchanges, where supply and demand influence price. Key elements include:

  • Stock Exchanges: Platforms like the NYSE or NASDAQ where shares are bought and sold.
  • Bid and Ask Price: The bid is what buyers are willing to pay; the ask is what sellers want.
  • Market Orders vs. Limit Orders: Market orders execute immediately at current prices, while limit orders set a specific buy/sell price.
  • Liquidity: Higher liquidity means shares can be bought or sold quickly without major price shifts.

Understanding these mechanisms is vital for investors seeking to trade shares effectively​.

Valuation and Risks of Shares

When investors evaluate shares, they consider several factors:

  • Market Capitalization: Total share value based on current stock price and outstanding shares.
  • Earnings per Share (EPS): A measure of company profitability, calculated as net income divided by outstanding shares.
  • Price-to-Earnings Ratio (P/E): Helps investors compare valuation relative to earnings.

However, share investing carries risks, including:

  • Market Volatility: Share prices can fluctuate due to economic changes or company performance.
  • Lack of Dividends: Not all companies issue regular payouts.
  • Loss of Capital: Shares can decline in value or become worthless in bankruptcy.

Investors should conduct thorough research before purchasing shares to mitigate risk​​.

Shareholder Rights and Responsibilities

Owning shares comes with legal rights and duties, such as:

  • Voting Rights: Equity shareholders typically vote on major business decisions.
  • Dividend Entitlements: Shareholders may receive profit distributions based on share type and company performance.
  • Access to Financials: Public companies must disclose financial reports to shareholders.
  • Residual Claims: In liquidation, shareholders may claim remaining assets after debt and preferred shareholders are paid.

These rights vary based on share type and jurisdiction. Understanding them helps shareholders protect their interests and participate in company decisions​​.

Frequently Asked Questions

1. What does it mean to "define shares"? To define shares is to explain that they are units of ownership in a company, representing a claim on assets and profits.

2. How are shares different from stocks? The terms are often used interchangeably, but "shares" usually refers to ownership in a specific company, while "stocks" can refer to ownership in general.

3. What are bonus shares? Bonus shares are free additional shares given to existing shareholders from a company’s retained earnings.

4. Can shares lose all their value? Yes. If a company performs poorly or goes bankrupt, its shares can drop significantly or become worthless.

5. What is the difference between authorized and issued shares? Authorized shares are the total number a company can issue, while issued shares are those that have actually been distributed to investors.

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