Shares and debentures

A company's capital is divided into shares. Think of a pizza shared among friends: each slice is a share of the whole. If a company has 1,000 shares and you buy 20 of them, you own that part of the company.

Equity shareholders are the owners of the company. They are residual owners: they are paid last, after everyone else, from what is left. They get no fixed dividend; their dividend rises and falls with the company's profits. They have voting rights, and their liability is limited. For the company, equity is permanent capital that never has to be repaid, and there is no compulsion to pay a dividend in a bad year.

Preference shareholders get two preferences over equity shareholders: a fixed dividend paid first, and their capital back first if the company is wound up. In return, they usually have no voting rights. Types include cumulative, participating and convertible preference shares.

Debenture holders are not owners. They have lent money to the company, so they are its creditors, and get a fixed rate of interest whether the company makes a profit or not. Debentures offered to the public must be rated by a credit rating agency such as CRISIL.

An important difference for the company: the interest on debentures is deductible when working out its taxable profit, but dividends on shares are not. So debentures can be a cheaper source.

Types of debentures: secured or unsecured; registered or bearer; convertible (into shares) or non-convertible; and first or second (the order in which they are repaid).