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FINANCIAL MANAGEMENT TOPIC Preference Shares and Debentures PRESENTED BY- SAMEER PATIL - 31 MEDHA PATKE - 33 ABHINITA POOJARY - 34 VAIDEHI SAKPAL - 35

FINANCIAL MANAGEMENT

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Page 1: FINANCIAL MANAGEMENT

FINANCIAL MANAGEMENT

TOPICPreference Shares and Debentures

PRESENTED BY-

SAMEER PATIL - 31MEDHA PATKE - 33

ABHINITA POOJARY - 34VAIDEHI SAKPAL - 35

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OUTLINE

• Introduction to PREFERENCE SHARES• Features• Pros and Cons of Preference Shares• Introduction to DEBENTURES• Features• Types of Debentures• Pros and Cons• Conclusion

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Introduction to PREFERENCE SHARES

Capital stock which provides a specific dividend that is paid before any dividends are paid to common stock holders, and which takes precedence over common stock in the event of a liquidation.

• Like common stock, preference shares represent partial ownership in a company, although preferred stock shareholders do not enjoy any of the voting rights of common stockholders. Also unlike common stock, preference shares pay a fixed dividend that does not fluctuate, although the company does not have to pay this dividend if it lacks the financial ability to do so.

• The main benefit to owning preference shares are that the investor has a greater claim on the company's assets than common stockholders. Preferred shareholders always receive their dividends first and, in the event the company goes bankrupt, preferred shareholders are paid off before common stockholders.

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FEATURES OF PREFERENCE SHARES• Corporate Structure

Preferred shares feature senior asset claims above common shares. This means that preferred shareholders are paid prior to common shareholders from the proceeds of any asset sales amid bankruptcy. In terms of dividends, preferred dividends are cumulative.

Missed dividends on preferred shares must be paid out first before common shareholders receive any dividend payments. Preferred stock asset claims, however, are junior to those on bonds. A corporation is legally obligated to make bond interest payments, but can pay out dividends at its discretion

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Features contn…..

• Voting RightsContrary to common shares, preferred shares do not feature voting rights. With common stock, one share translates into one vote..

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• The preferred or preference share holders are provided with several facilities. The prime facility is regarding the payments of dividends. At the same time, if the dividends are not paid by the corporation to the preference share holders, the amount of the dividend is credited to the account of the share holder and is paid to the share holder with the next year's dividend

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Cont…..• Risks Vs. Rewards• Preferred shares are relatively safe investments, when compared to shares

of common stock. In exchange for the safety of your investment principal, however, you must be willing to accept smaller potential returns on preferred shares.

• Common shares feature junior asset claims to preferred stock, so common stock returns are more so related to corporate earnings performance. Earnings and common stock prices will increase significantly over time when a company is managed well. Because of their relatively low returns, preferred shares are more susceptible to inflation risks. Inflation erodes purchasing power on cash, when prices for goods and services increase. Preferred shares are also subject to interest rate risks.

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• Apart from these owner-friendly features of preference shares, there are some other features also that may not be in proper harmony with the shareholders. One of such feature is the call provision. According to this provision, the preference share issuing company or corporation may buy-back the shares from the market whenever the situation demands so

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Pros and Cons • Pros:

Preference shares have the priority over common stocks in the way that their investors will receive the dividends before the common stock investors. It is good for investors who are just targeting on dividend yields since the company will pay them the dividends in full first.

In case of the company bankruptcy, investors of the preference shares will be paid out in assets before common stockholders.

Price movement of the preference shares will be slow due to low volume trading. Hence investors will not need to spend too much time focusing on the price movement.

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• Cons:

Keep in mind as well that preference shares may be illiquid as compared to common shares. You may not be able to buy and sell as quickly as equities because of the low volume trading for preference shares.

Preference shares are not suitable for investors who are targeting in capital gain. It is because preference shares tend to give you lower capital gains compared to normal shares.

The issuer has the right, but no obligation, to redeem the preference shares. In the event of redemption, the issuer is likely to pay the investor the issue price for each preference share, plus any dividends payable up to the redemption date. Please note that investors might suffer some loses if they bought their shares at a price higher than the issue price in case of redemption.

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Introduction to Debentures• A type of debt instrument that is not secured by physical

asset or collateral.

• Debentures are backed only by the general creditworthiness and reputation of the issuer.

• Both corporations and governments frequently issue this type of bond in order to secure capital. Like other types of bonds, debentures are documented in an indenture.

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• Debentures (or loan stock) exist as an alternative form of investing in a company that is more secure than investing in shares because interest payments must be made by the company and must be paid before dividends. Dividends, in contrast to debentures, are paid at the company’s discretion. Debenture holders also become preferential creditors if the company which issued the debentures fails. A disadvantage is that debenture holders have no share in the company and therefore have no control over it.

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Features of Debentures• Debenture is a type of debt instrument issued to anyone who lend money to a company for a

specified term and interest rate. In general, debentures have the following important features:

1) Debenture holders are not the owners of the company. They are considered the creditors of the corporation or in other words, the company borrow money from them through issuing debenture.

2) No voting rights. The debenture-holder is not a shareholder and cannot vote in the company's general meetings.

• 3) Fixed rate of interest. A debenture with a fixed charge has a fixed rate of interest. It can be presented as "10% Debenture". They are always unsecured and earns a fixed rate of interest but has no share of the profit.

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• 4) Compulsory payment of interest. The interest on debenture is payable irrespective of whether there are profits made or not.

• 5) Redeemable and Irredeemable. A redeemable debenture is the one which is to be repaid within a maturity period, while Irredeemable or Non-redeemable debentures cannot be redeemed in the life time of the company and only repayable upon the liquidation of the corporation.

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Types of Debentures

• Registered Debentures:

• These are those debentures which are registered in the register of the company. the names, addresses and particulars of holdings of debenture holders are entered in a register kept by the company. ed holders.

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• Bearer Debentures:

These are those debentures which are not registered in the register of the company. Bearer debentures are like a bearer check. They are payable to the bearer and are deemed to be negotiable instruments. They are transferable by mere delivery. No formality of executing a transfer deed is necessary. When bearer documents are transferred, stamp duty need not be paid.

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• Secured Debentures: These are those debentures which are secured against the assets of the company which means if the company is closing down its business, the assets will be sold and the debenture holders will be paid their money. The charge or the mortgage may be fixed or floating and they may be fixed mortgage debentures or floating mortgage depending upon the nature of charge under the category of secured debentures.

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• Unsecured Debentures:

These are those debentures which are not secured against the assets of the company which means when the company is closing down its business, the assets will not be sold to pay off the debenture holders. These debentures do not create any charge on the assets of the company. There is no security for repayment of principal amount and payment of interest. The only security available to such debenture holders is the general solvency of the company. Therefore the position of these debenture holders at the times of winding up of the company will be like that of unsecured debentures. That is they are considered with the ordinary creditors of the company.

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• Convertible Debentures:

These are those debentures which can be converted into equity shares. These debentures have an option to convert them into equity or preference shares at the stated rate of exchange after a certain period. If the holders exercises the right of conversion, they cease to be the lender to the company and become the members.

Thus convertible debentures may be referred as debentures which are convertible into shares at the option of the holders after a specified period. The rate of exchange of debentures into shares is also decided at the time of issue of debentures.

Prior approval of the shareholders is necessary for the issue of convertible debentures. It also requires sanction of the Central Government.

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• Non-Convertible Debentures: These are those debentures which cannot be converted either into equity shares or preference shares. They may be secured or unsecured. Non-convertible debentures are normally redeemed on maturity period which may be 10 or 20 years.

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• Redeemable Debentures:

These debentures are issued by the company for a specific period only. On the expiry of period, debenture capital is redeemed or paid back.

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• Irredeemable Debentures: These debentures are issued for an indefinite period which are also known as perpetual debentures. The debenture capital is repaid either at the option of the company by giving prior notice to that effect or at the winding up of the company.

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Pros & Cons of Debentures• PROS-

• 1. Control of company is not surrendered to debenture holders because they do not have any voting rights.

•2. Trading on equity is possible as debenture holders get a lower rate of return than the earnings of the company.

3. Interest on debenture is an allowable expenditure under income tax act, hence incidence of tax on the company is decreased.

4. Debenture can be redeemed when company has surplus funds.

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• CONS-1. Cost of raising capital through debentures is high of high stamps duty.

2. Common people cannot buy debenture as they are of high denominations.

3. They are not meant for companies earning greater than the rate of interest which they are paying on the debentures.

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Conclusion