Investing in the stock market can appear to be a daunting task at first. From the various financial instruments you could invest in like bonds, debentures, equity shares, to name a select few. However, when it comes to purchasing shares in the stock market, a breakdown of the basics of investing in publicly listed companies can provide a more comprehensive understanding.
A company, while looking to raise capital has two basic sources of capital it can consider. It could take on debt, wherein it borrows money from lenders through a variety of debt instruments such as debentures that allows them to raise money from the public; or, it could raise money through equity. Here, the firm trades part ownership of the firm with investors in exchange for their capital. The company does this by issuing shares. There are a number of types of shares, from preference shares to equity shares. In this article, we will aim to better understand equity shares, how they function, pros and cons of acquiring equity shares as well as some equity share strategies.
What are equity shares?
By definition, equity shares are defined as long term financing options for firms looking to raise capital. Essentially, this means that each equity share represents a unit of part ownership in the company. The more equity shares one possesses, the bigger stake they have in the company. Equity shares are also referred to as common stock, or common shares, and are offered as an investment opportunity to the public. The reason they are referred to as common stock is that , when compared to the other type of shares a company can issue; preference shares, there are some variations in the opportunities offered to equity share owners. However, these differences are not necessarily negative.
Features and advantages of equity shares
Equity shares are considered to be a long term financing option for companies looking to fund their business operations. For holders of preference shares, there are a number of perks/advantages they can enjoy.
Arguably the biggest plus point for possessing equity shares is that holders of equity shares are handed voting rights in the form of a say in the election of GMs etc, as well as having a voice in business decisions of the company, since the operations of the company will have a direct effect on the returns they gain from the company. Generally, one share equates to one vote. Meaning, if you possess a large amount of equity shares, you are also granted substantial voting rights.
Admission to meetings:
Those holding equity sharesare allowed a seat at any annual and/or general body meetings the company has, alongside a say in the business functions of the family granted to them by their voting rights.
Holders of equity sharesalso qualify for dividend shares. However, here is where there is a difference between the benefits holders of common stock receive when compared to those holding preference shares. Dividend payments to equity shareholders are not fixed and can vary based on the performance of the firm and contingent on it meeting certain goals. Thus, while equity shareholders are eligible to receive dividend payments, these payments are not guaranteed. For preference shareholders however,dividend payments are fixed.
Equity shares are irredeemable:
the money raised from equity sharesis not refunded to investors during the lifetime of the company. Equity shareholders can either redeem this capital by selling their equity shares, or will receive it when the company winds up, based on what their equity shares are worth at the time.
Who would buy equity shares?
Equity shares are a great investment for those looking to earn a high income. When the price of equity share appreciates, investors can sell their holdings in order to generate significant earnings. Another potential owner of equity shares is someone who is looking to hedge themselves against inflation by brute forcing the system. In other words, the goal here is to generate enough earnings from the purchase and sale of equity shares that you are able to maintain your purchasing power even if the value of currency depreciates due to inflation.
Equity shares are a good contender when it comes to investment options. Holders are allowed a say in business functions, and given that they hold a personal stake in the company, are directly incentivised to take decisions that are in the interest of the company by using their voting rights and seat at the company table. However, one must always assess all their investment options and aim to attain a diverse portfolio to minimise risk. Investment shares therefore, are an ideal addition to an already diverse investment portfolio.