Singapore is one of the most sought-after business destinations for entrepreneurs from all over the world. With its pro-business policies, strategic location, and stable economy, it offers an excellent environment for both startups and established companies. One of the key features that make Singapore a popular choice for business formation is its flexible corporate structures, which cater to various types of investors.
When incorporating a company in Singapore, business owners and investors often consider different ways to raise capital, one of which is through preference shares. Preference shares offer specific benefits that can be highly advantageous for both the company issuing them and the investors holding them.
This article will explore what preference shares are, how they work in Singapore, the benefits and considerations for companies and investors, and how preference shares can be used strategically in the context of company incorporation and business expansion.
What Are Preference Shares?
Preference shares (also known as preferred stock) are a class of shares that provide shareholders with certain rights or privileges over common shareholders. While preference shareholders are typically not entitled to vote at annual general meetings, they do have preferential rights when it comes to dividends and the distribution of assets in the event of a liquidation.
In Singapore, preference shares can be issued by Private Limited Companies (Pte Ltd) and are governed under the Companies Act. These shares can be customized to meet the needs of the company and the investors, offering greater flexibility in structuring deals.
Key characteristics of preference shares include:
Fixed Dividends: Preference shareholders are entitled to receive a fixed dividend, which is paid before common shareholders receive their dividends. This provides stability and predictability for investors.
Priority in Liquidation: In case the company is liquidated, preference shareholders are paid before common shareholders, though they rank after creditors.
Non-voting Rights: Generally, preference shareholders do not have voting rights in the company, though this can be altered depending on the specific terms of the share issuance.
Convertibility: Preference shares can be issued as convertible preference shares, which may be converted into common shares under certain conditions.
Cumulative Dividends: Some preference shares are cumulative, meaning if the company does not pay dividends in one year, the unpaid dividends accumulate and must be paid before common shareholders receive dividends in the future.
Why Issue Preference Shares in Singapore?
There are several reasons why a company in Singapore might choose to issue preference shares, particularly for raising capital. Let’s explore the key advantages for both companies and investors.
- Raising Capital Without Diluting Control
For entrepreneurs looking to raise capital without giving up control of the company, preference shares provide a flexible option. Unlike common equity shares, which dilute the ownership and control of the existing shareholders, preference shares typically do not come with voting rights. This allows founders to maintain control over the decision-making process of the company while still attracting investors.
- Predictable and Stable Income for Investors
Preference shares can be highly attractive to investors looking for a stable, fixed income. The fixed dividend payouts make preference shares an appealing investment for those who prefer regular returns, particularly in industries where cash flow is consistent. Investors are also prioritised over common shareholders when it comes to dividend payments and liquidation proceeds.
- Flexible Terms and Customization
One of the main advantages of issuing preference shares in Singapore is the ability to customize the terms to suit the needs of the business and the investors. These terms can include:
- The dividend rate, which can be fixed or variable.
- Cumulative or non-cumulative dividends.
- Convertibility into common shares under specified conditions, giving investors the option to convert their preferred stock into regular equity.
- Redemption rights, allowing the company to buy back the shares after a set period or under certain conditions.
The flexibility of preference shares makes them an ideal option for companies looking to attract investment while maintaining a balance of control and ownership.
- Tax Advantages for the Company
The dividends paid on preference shares are typically considered an expense for the company, which can help reduce the company’s taxable income. This can be advantageous for companies looking to optimize their tax position. Additionally, Singapore’s corporate tax rate is one of the lowest globally at 17%, providing an extra benefit for businesses by allowing them to retain more profits after tax.
- Attractive to Long-Term Investors
For companies in need of long-term funding, preference shares offer a viable alternative to loans and other forms of debt. Since preference shareholders do not have voting rights, they are typically content with receiving consistent, fixed dividends over the long term, making them less likely to demand operational control. This makes preference shares ideal for companies that want to bring in capital without the risk of losing decision-making power.
Types of Preference Shares in Singapore
There are several types of preference shares that companies in Singapore can issue, depending on the needs of the business and the preferences of the investors:
- Cumulative Preference Shares
Cumulative preference shares are the most common type of preference shares issued in Singapore. These shares entitle investors to receive any unpaid dividends from previous years. For instance, if the company cannot pay dividends in one year, the cumulative preference shareholders are entitled to receive the unpaid dividends in the following years before common shareholders can receive any dividends.
- Non-Cumulative Preference Shares
Non-cumulative preference shares do not carry forward any unpaid dividends, unlike cumulative preference shares. If the company fails to pay dividends in one year, shareholders are not entitled to any future compensation for those missed dividends. These shares are typically seen as less attractive to investors but provide more flexibility to companies.
- Convertible Preference Shares
Convertible preference shares allow the holder to convert their preference shares into common shares after a specified period or under certain conditions. The terms of conversion, including the conversion price, must be specified in the company’s constitution. If the price of ordinary shares increases, the conversion price remains fixed, allowing the preference shareholders to potentially convert their shares at a lower price, thus benefiting from the company’s equity growth.
- Redeemable Preference Shares
Redeemable preference shares give the company the option to buy back the shares from investors after a certain period or at the discretion of the directors, provided the company remains a going concern. These shares may provide investors with a fixed dividend rate, but with the added assurance that their capital will be returned within a set period.
Considerations and Risks of Preference Shares
While preference shares offer several advantages, there are also some important considerations and risks for both companies and investors:
- Limited Capital Appreciation for Investors
While preference shareholders receive fixed dividends, they do not benefit from the company’s capital appreciation. This makes preference shares less attractive for investors looking for high growth potential.
- Impact on Cash Flow
For companies, paying regular dividends on preference shares can place a strain on cash flow, especially during periods of lower revenue. Companies must be careful to ensure that they can meet their dividend obligations without affecting day-to-day operations.
- Voting Rights Limitations
Preference shareholders usually do not have voting rights, which means they have no say in the company’s major decisions. This can be a downside for investors who wish to influence the company’s direction.
- Regulatory Considerations
Companies issuing preference shares must comply with Singapore’s Companies Act and ensure that all terms and conditions are properly documented. Improperly structured preference shares can lead to legal disputes or compliance issues.
How to Issue Preference Shares in Singapore
Issuing preference shares in Singapore follows a structured process, which includes:
- Drafting the Company’s Constitution: The terms for the preference shares should be clearly outlined in the company’s constitution.
- Board Approval: The board of directors must approve the issuance of preference shares, and a board resolution is required.
- Shareholder Approval: In certain cases, shareholder approval may be required, especially if changes to the company’s constitution are necessary.
- Filing with ACRA: If there are changes to the company’s share structure or constitutional amendments, the company must file the necessary documents with the Accounting and Corporate Regulatory Authority (ACRA).
Conclusion
Preference shares offer a unique and flexible way for companies in Singapore to raise capital while providing investors with steady returns. They are particularly attractive to foreign entrepreneurs looking to raise funds without sacrificing control of their company. By offering fixed dividends, limited liability protection, and potential tax advantages, preference shares can be an excellent financing tool for businesses at different stages of growth.