Preference Shares vs Ordinary Shares in a UK Company

When setting up or funding a UK limited company, choosing the right share structure can have a major impact on who receives dividends, who controls important decisions, and who gets paid first if the company is wound up. For most new companies, ordinary shares are the straightforward starting point. They typically provide voting rights, dividend rights and a share of any remaining company assets after creditors and higher-ranking shareholders have been paid.

Preference shares, by contrast, are designed to give their holders priority over ordinary shareholders in certain circumstances. Depending on the terms attached to them, they may provide preferential dividend rights, priority on a return of capital, limited voting rights, or redemption rights. UK companies can create multiple share classes with different rights. Companies House specifically recognises ordinary, preference, deferred and redeemable shares among the common types. The important point is that the label alone does not determine everything. The rights attached to a particular class of shares are what really matter.

What Are Ordinary Shares?

Ordinary shares are the most common type of shares issued by UK companies. GOV.UK states that most companies limited by shares are established with one class of shares, normally ordinary shares. Ordinary shareholders will usually have voting rights and may receive dividends. A typical ordinary share may provide three core economic and governance rights:

• The right to vote on company decisions
• The right to receive dividends when properly declared
• The right to participate in the company's remaining assets after debts and higher-ranking claims have been settled

Ordinary shareholders generally take the greatest amount of entrepreneurial risk because they are at the bottom of the capital structure compared with creditors and shareholders with preferential rights. If a successful company grows substantially, however, ordinary shareholders can benefit significantly because their economic interest is not normally capped at a fixed dividend.

Example of ordinary shares

Imagine a startup has 1,000 ordinary shares:

• Founder A owns 600 shares
• Founder B owns 400 shares

Assuming all shares have identical rights, Founder A owns 60% and Founder B owns 40%. If the company declares a dividend, the distribution will normally follow the rights attached to those shares. If the company is sold and there is value left for shareholders after liabilities and any preferential claims are dealt with, ordinary shareholders participate in the remaining value according to their rights. This is why ordinary shares are commonly used for founders and early-stage ownership.

What Are Preference Shares?

Preference shares are a separate class of shares with rights that rank ahead of ordinary shares in specified respects. HMRC describes a typical preference share as having preferential rights to a fixed dividend, restricted voting rights and preferential rights over ordinary shareholders when company assets are distributed on a solvent winding-up.

Companies House similarly explains that preference shares normally carry a right for annual dividends available for distribution to be paid on those shares before other classes. However, there is no single universal form of "preference share". The exact rights depend on the company's articles, resolutions and terms of issue. A preference share might therefore be:

• Cumulative or non-cumulative
• Participating or non-participating
• Redeemable or non-redeemable
• Voting or non-voting
• Entitled to a fixed dividend or another agreed economic return
• Given priority on a return of capital
• Given conversion rights into ordinary shares

These distinctions can make preference shares considerably more sophisticated than ordinary shares.

Preference Shares vs Ordinary Shares: Key Differences

The simplest way to understand the difference is to compare the principal rights.

These are general characteristics rather than universal rules. The actual rights of each class must be checked in the company's constitutional documents and terms of issue.

How Do Dividends Work?

Dividend rights are one of the biggest practical differences. An ordinary shareholder does not normally receive a guaranteed dividend simply because they own shares. Dividends depend on the company's distributable profits and the company's constitutional and legal requirements. Preference shares may instead carry a right to receive dividends before ordinary shareholders. For example, suppose a company has:

• 10,000 ordinary shares
• 2,000 preference shares
• Preference shares carrying an agreed 6% preferential dividend

If the relevant terms provide for a 6% preference dividend, the preference shareholders may be entitled to receive that preferential amount before ordinary shareholders receive distributions. But this does not necessarily mean preference shareholders are guaranteed to receive cash every year regardless of the company's financial position. The precise wording matters, including whether the dividend is cumulative and what conditions apply.

Cumulative vs non-cumulative preference shares

A cumulative preference share may allow an unpaid preference dividend to accumulate and become payable in a later period, subject to the terms.

A non-cumulative preference share generally does not carry forward an unpaid dividend in the same way. This distinction can be extremely important for investors negotiating the terms of an investment.

What Happens If the Company Is Wound Up?

The ranking of shareholders becomes particularly important when a company is being wound up. Ordinary shareholders generally receive whatever remains after the company's debts and higher-ranking claims have been dealt with.

Preference shares may rank ahead of ordinary shares for the return of capital. HMRC describes preference shares as having priority over ordinary shares in a liquidation. Consider a simplified example. A company has £500,000 available for distribution after paying its creditors. There are:

• £150,000 of relevant preference share capital with priority rights
• Ordinary shareholders holding the remaining equity

If the preference shares have priority for repayment of capital, the preference shareholders may receive their £150,000 before the ordinary shareholders participate in the remaining £350,000. The actual result depends on the rights attached to the shares and the circumstances of the winding-up.

Do Preference Shareholders Have Voting Rights?

Not necessarily. Ordinary shares commonly carry voting rights, while preference shares may have restricted or no voting rights. HMRC identifies restricted voting rights as a typical feature of preference shares. But there is no universal rule that every preference share must be non-voting.

The company's share rights can specify different voting arrangements. Companies House requires information about the rights attached to each share class, including voting, dividend and distribution rights. For founders, this creates an important distinction: Economic ownership and voting control do not always have to be the same thing.

A company could, for example, issue an investor preference shares with strong economic protections but limited voting rights, while founders retain ordinary shares with greater voting control.

Why Would a UK Company Issue Preference Shares?

Preference shares can be useful when a company needs to raise money without giving an investor exactly the same rights as existing ordinary shareholders.

1. Raising investment

An investor may be willing to provide capital in exchange for preferential economic rights. This can be particularly relevant where the investor wants some protection on downside risk but the founders want to preserve a degree of control.

2. Structuring founder and investor interests

A startup might use different share classes to separate:

• Voting control
• Dividend rights
• Investment priority
• Exit proceeds
• Conversion rights

This can create a more sophisticated ownership structure than simply giving every shareholder identical ordinary shares.

3. Protecting an investor's downside

An investor who contributes substantial capital may negotiate priority on certain distributions or a return of capital. This can make the investment more attractive compared with simply purchasing ordinary shares.

4. Creating flexibility for future funding

Different classes can be designed around different investment rounds or strategic arrangements. However, complexity should have a purpose. Creating multiple share classes simply because they are available can make future fundraising, shareholder negotiations and company administration harder.

Can a Company Have Both Ordinary and Preference Shares?

Yes. A UK company can have multiple share classes with different rights. Companies House states that a company may have different types of shares with different conditions attached to them. For example, a company might have:

• 10,000 A Ordinary Shares
• 2,000 B Ordinary Shares
• 5,000 Preference Shares

Each class can have different rights. The company must properly document those rights and report its share capital to Companies House when required. The statement of capital includes information such as the class of shares, number of shares, nominal value and rights attached to each class.

Can You Change the Rights Attached to Shares?

Potentially, but it is not something directors or shareholders should treat as a routine administrative change. Under the Companies Act 2006, rights attached to a class of shares may be varied in accordance with the company's articles or, where the articles do not provide for the variation, with the required consent of the holders of that class.

This is important because investors often negotiate their share rights precisely to protect their position. For example, if preference shareholders have negotiated priority rights, the company may not be able to remove those rights simply by changing its ordinary share structure. Before creating or varying a class, founders should therefore review:

1. The articles of association
2. Existing shareholder agreements
3. The terms attached to the relevant shares
4. Any investor agreements
5. Companies Act requirements
6. Companies House filing requirements
7. Tax and accounting consequences

Preference Shares and Startup Investment

For startups, the choice between ordinary and preference shares often comes down to risk versus control. Founders usually want ordinary equity because it allows them to participate in the long-term growth of the business. Investors may prefer additional protections because they are putting capital at risk.

A negotiated preference share structure can bridge that gap. For example, an investor might receive preference shares with a right to receive their investment back before ordinary shareholders on a qualifying exit, while founders retain ordinary shares and continue running the company.

In venture financing, the terms can become much more sophisticated, potentially involving liquidation preferences, conversion rights, anti-dilution provisions and other investor protections. At that point, professional legal and tax advice becomes particularly important.

An Important Tax and Accounting Point

Do not assume that a share's name automatically determines its tax or accounting treatment. HMRC uses different definitions of "ordinary share" for particular tax purposes. In some circumstances, whether a share qualifies as ordinary share capital depends on its actual rights rather than simply whether it is labelled "ordinary".

Accounting treatment can also depend on the contractual terms. For example, HMRC notes that certain redeemable preference shares or shares carrying contractual payment obligations can potentially be treated as financial liabilities rather than straightforward equity for accounting purposes. That is why founders should avoid designing a complex share structure based purely on templates or the name of a share class.

Which Is Better: Ordinary or Preference Shares?

Neither is automatically better. The right choice depends on the commercial objective.

Ordinary shares are generally more appropriate when:

• Founders want straightforward ownership
• Shareholders should participate in growth
• Voting rights should broadly reflect ownership
• The company is being established with a simple structure
• There is no particular need for investor preference

Preference shares may be appropriate when:

• An investor wants priority rights
• The company is raising external capital
• Different investors require different economic protections
• The founders need to separate control from economic rights
• A sophisticated investment structure is commercially justified

For a simple new company with one or two founders, ordinary shares are often sufficient. As outside investment becomes more significant, preference shares may become more useful.

What Should Founders Check Before Creating Preference Shares?

Before issuing preference shares, ask:

1. What exactly does the investor receive?

Define dividend, voting, conversion and capital rights precisely.

2. What happens on an exit?

Understand who receives money first if the company is sold.

3. Are the shares redeemable?

If they are redeemable, establish when and how redemption can occur.

4. Are the dividends cumulative?

An unpaid dividend can have very different consequences depending on the terms.

5. Can the preference shares convert into ordinary shares?

Conversion rights can significantly affect ownership and exit economics.

6. Could future fundraising dilute existing shareholders?

Consider how new share issues interact with existing rights and any pre-emption arrangements.

7. Are the rights properly documented?

The company's articles, shareholder agreement, resolutions and Companies House records should be consistent.

Frequently Asked Questions

Are preference shares better than ordinary shares?

Not necessarily. Preference shares usually provide priority rights, while ordinary shares generally provide greater participation in the company's residual profits and growth. The better option depends on the shareholder's objectives.

Do ordinary shares have voting rights in the UK?

Ordinary shares will usually carry voting rights, commonly one vote per share, although the precise rights depend on the company's articles and the terms attached to the shares.

Do preference shares always have a fixed dividend?

No. A fixed preferential dividend is common, but preference shares can be structured in different ways. The specific terms of issue determine the rights.

Can preference shares have voting rights?

Yes. Preference shares can have voting rights, restricted voting rights or no voting rights, depending on their terms.

Can a UK company issue both ordinary and preference shares?

Yes. A UK company can have multiple classes of shares with different rights. The company must properly document and report its share structure.

Do preference shareholders get paid before ordinary shareholders if a company is wound up?

They may, if their shares have preferential rights to a return of capital. The exact ranking depends on the rights attached to the shares and the circumstances of the winding-up.

Can I create preference shares when incorporating a UK company?

Yes, a company can be incorporated with multiple share classes. However, the rights need to be properly specified, so a more complex structure should be designed carefully rather than created simply because it is technically possible.

Do preference shares count as ordinary share capital for tax purposes?

Not necessarily. Tax legislation can apply its own definitions, and HMRC notes that the tax treatment depends on the actual rights attached to the shares.

Can ordinary shares be converted into preference shares?

Potentially, but this depends on the company's articles, the relevant share rights, shareholder approvals and Companies Act requirements. It should be treated as a formal corporate transaction rather than a simple change of label.

Conclusion

The fundamental difference between ordinary shares and preference shares is priority. Ordinary shares usually represent the standard ownership interest in a company. They commonly provide voting rights, dividend participation and an entitlement to residual value if the company succeeds. Preference shares are typically structured to give their holders priority over ordinary shareholders in areas such as dividends or return of capital. In exchange, they may have restricted voting rights or more limited participation in future upside.

For a straightforward founder-owned UK company, ordinary shares are often the simplest and most practical structure. Preference shares become more relevant when external investors, funding rounds, different economic priorities or sophisticated ownership arrangements enter the picture. Most importantly, do not choose a share class based solely on its name. The rights attached to the shares are what determine how the structure actually works.

For founders establishing and managing a UK company remotely, platforms such as IncorpUK can form part of the wider administrative infrastructure around company formation and ongoing management. But where a proposed share structure involves investors, unusual rights, complex tax considerations or significant amounts of capital, specialist legal and accounting advice should be considered before the shares are issued.