What Are Preference Shares?

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If you’re a startup looking to raise capital, you’ve probably heard the term “preference shares” thrown around.

Well, what are they?

Some people think that preference shares have specific characteristics that are defined by law. However, the great thing about preference shares is that they are flexible and you can set preferences that suit your circumstances.

Startup investors will typically ask for preference, so it’s important you understand what they are.

By understanding preference shares, you’ll be in a stronger position to negotiate the terms of the raise and get a better deal!

What Do Preference Shares Offer Potential Investors?

The flexible nature of preference shares gives you greater options to attract the right investors.

Investing in a startup is a risky venture, so investors will often ask for preferences to protect their interests.

From a startup’s perspective, you need to be across all the different options, so that you can make an informed decision around what to give away.

Types Of Preference Shares

Convertible/ Non-Convertible	Convertible preference shares give shareholders the option to convert their shares into a fixed number of ordinary shares, after an agreed date.Non-convertible preference shares mean that their shares will only be classified as preference shares and do not have the possibility of converting to ordinary shares.
Cumulative/ Non-Cumulative	Cumulative preference shares aren’t all that common in Australia, but provide shareholders with a huge advantage. It basically entitles them to carry over dividend entitlements to the following year, even when no dividends were declared.Non-cumulative preferred shares are more common and they do not entitle shareholders to carry over their entitlements.
Participating/ Non-participating	Participating preference shares entitle shareholders to surplus profits and assets, on top standard dividend payments. They may also have liquidation preferences.
Redeemable/ Non-redeemable	Redeemable preference shares allow the company to buy back the shares at an agreed time in the future.

What Does It Mean To Be A Preference Shareholder?

If your company goes into liquidation, preference shareholders will rank higher than ordinary shareholders.

This means that their claim to your company’s assets will be prioritised to that of the ordinary shareholders.

However, payment of your company debts is made before the payment to both kinds of shareholders.

What Should I Consider When Issuing Preference Shares?

The flexibility of preference shares is attractive to potential investors.

This is because they offer more financial protection when compared to ordinary shares.

Due to the inherent risks of investing in a startup, investors may insist on getting preference shares.

So, depending on your bargaining power, it is likely that you will have to issue preference shares to potential investors.

What To Take Away…

Issuing preference shares reduces the risk investors take when purchasing shares in your company.

This is because they are not as volatile as ordinary shares and will provide stability in dividends to your investors.

If you’re unsure about what to do when issuing preference shares or have questions about what options to exercise, feel free to contact us. We are here to help!

Esha Kumar

Esha is a law graduate at Sprintlaw from the University of Sydney. She has gained experience in public relations, boutique law firms and different roles at Sprintlaw to channel her passion for helping businesses get their legals sorted.

Tomoyuki Hachigo

Tomo is the co-founder of Sprintlaw and a commercial lawyer with a broad range of legal experience. Before starting Sprintlaw, he was an M&A lawyer at a top-tier law firm advising businesses of all sizes from large corporates to startups.