Equity Share and its Types

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Equity share is a primary source of finance for any company giving investors rights to vote, share profits, and claim on assets. Various types of equity share capital are authorized, issued, subscribed, paid-up, rights, bonus, sweat equity, etc. The expression of the value of equity shares is in terms of the face value or par value, issue price, book value, market value, intrinsic value, stock market value, etc. 

In the world of finance and investment management, ‘equity share’ is a big word, and we frequently use it in every following discussion. We call it stock, ordinary share, or shares; all are the same. Explaining equity shares on a page or a bunch of pages is very difficult. Let us still try to define it in as a summarized manner as possible.

Usually, a company is started with equity finance as its first source of capital from the owners or promoters of that company (founder’s stock). After a certain level of growth, there is a requirement for more capital for further growth. The company then finds an investor in the form of friends, relatives, venture capitalists, mutual funds, or any such small group of investors and issues new equity shares to these investors.

A point comes where the company reaches a very high level and requires enormous capital investment for business growth. An Initial Public Offer (IPO) is the offer of shares that the company makes to the general public for the first time. And Follow on Public Offer (FPO) are more such offers in the future to the public. Other than these, there are various other sources of equity financing.

Equity Shares

They fall under the long-term sources of finance– category because, legally, they are irredeemable. For an investor, these shares are a certificate of ownership in the company by virtue of which investors are entitled to share the net profits and have a residual claim over the company’s assets in the event of liquidation. Investors have voting rights in the company, and their liability to the company is limited to the amount of issue price of the equity stock.

Types of Equity Shares

There are various classes of shares (equity) dependent on multiple things. Let’s discuss them.

In the company’s financial statements, we place the equity shares on the liability side of the balance sheet. Their classification into various categories is as follows:

Authorized Share Capital

It is the maximum amount of capital that a company can issue. The companies can increase it from time to time. For that, we need to comply with some formalities and pay some fees to the legal bodies.

Issued Share Capital

It is part of the authorized capital that the company offers to investors.

Subscribed Share Capital

An investor accepts and agrees upon that part of the issued capital.

It is the part of the subscribed capital that the investors pay. Normally, all companies accept complete money in one shot and therefore issued, subscribed, and paid capital becomes the same. Conceptually, paid-up capitalis the amount of money a company invests in the business. It is also known as contributed capital.

Apart from the above, other types of shares (equity) also exist.

Rights Shares

Right shares are those that a company issues to its existing shareholders. The company issues such kinds of shares to protect the ownership rights of the existing investors.

Bonus Shares

When the company issues shares to its shareholders in the form of a dividend, we shall call them bonus shares. There are various advantages and disadvantages of bonus shares like dividend, capital gain, limited liability, high risk, fluctuation in the market, etc.

Sweat Equity Share

Sweat equity shares are issued to exceptional employees or directors of the company for their exceptional job in terms of providing know-how or intellectual property rights to the company.

Treasury Stock

Treasury stock means the share that the company has bought back.

Various Prices of Equity Shares

Par or Face Value

Par or face value is the value of shares that we record in the books of accounts. It is also termed the legal capitalin the books of accounts of the company.

Issue Price

This price is the price that a company offers to investors. Normally, the issue price and face value of a share are the same in the case of new companies.

Share/Security Premium and Share at Discount

When the issuance of shares is at a price higher than face value, we shall call this excess amount to be premium. On the contrary, when the issuance of shares is at a price lower than face value, we shall call this deficit amount a discount.

Book Value

The calculation of the book value will be:

Paid-up Capital + Reserves and Surplus – Any Loss / The total number of equity shares of the company

This is the balance sheet value of shares. This is an important value in the case of Mergers and Acquisitions.

Market Value

In the case of companies listed on stock exchanges, the market value of the equity share is the price at which they are currently sold in the market. The other term for it is stock market value. It may happen that stock market value and value as per fundamental principles differ. Because there are a number of sentiments that affect the stock market value.

Fundamental Value 

The number of times the fundamental value of the security is calculated for the purpose of the Merger or valuation. Its calculation is as per (i) Dividend Discount Model (ii) Price Earning Ratio Method (iii) Earning Capitalization Method (iii) Chop Shop method.

Investing and Financing Angle of Equity Shares

When talking about equity shares, there are two angles. One investor angle wherein the investor invests in equity shares and the second financing angle where a company accepts the finance in the form of equity. There are pros and cons of both of these as described below.

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