A preferred stock, also known as a preferred share or simply a preferred, is a share of stock carrying additional rights above and beyond those conferred by common stock.
Unlike common stock, preferred stock usually has several rights attached to it:
- The core right is that of preference in dividends. Before a dividend can be declared on the common shares, any dividend obligation to the preferred shares must be satisfied.
- The dividend rights are often cumulative, such that if the dividend is not paid it accumulates in arrears.
- Preferred stock has a par value or liquidation value associated with it. This represents the amount of capital that was contributed to the corporation when the shares were first issued.
- Preferred stock has a claim on liquidation proceeds of a stock corporation, equivalent to its par or liquidation value. This claim is senior to that of common stock, which has only a residual claim.
- Almost all preferred shares have a fixed dividend amount. The dividend is usually specified as a percentage of the par value or as a fixed amount. For example Pacific Gas & Electric 6% Series A preferred.
- Variable preferreds are rare exceptions; their changing dividends depend on prevailing interest rates, or varying as a percentage of net income.
- Some preferred shares have special voting rights to approve certain extraordinary events (such as the issuance of new shares or the approval of the acquisition of the company) or to elect directors, but most preferred shares provide no voting rights associated with them.
- Usually preferred shares contain protective provisions which prevent the issuance of new preferred shares with a senior claim. This results in corporations often having several series of preferred shares that have a subordinate relationship.
The above list, although including several customary rights, is far from comprehensive. Preferred shares, like other legal arrangements, may specify nearly any right conceivable. Some corporations contain provisions in their charters authorising the issuance of preferred stock whose terms and conditions may be determined by the board of directors when issued. These "blank check" preferred shares are often used as takeover defense. These shares may have very high liquidation value that must be redeemed in the event of a change of control or may have enormous supervoting powers.
Preferred shares are more common in private companies, where it is more useful to distinguish between the control of and the economic interest in the company. Also, government regulations and the rules of stock exchanges discourage the issuance of publicly traded preferred shares.
A single company may issue several classes of preferred stock. For example, a company may undergo several rounds of financing, with each round receiving separate rights and having a separate class of preferred stock; such a company might have "Series A Preferred", "Series B Preferred", "Series C Preferred" and common stock.
Preferred shares represent a significant portion of Canadian capital markets, with over CAD 5-billion in preferred share issues in 2005.
Many issuers are financial organizations that may count capital raised in the preferred share market as Tier 1 capital, provided that the shares issued are perpetual. Another class of issuer are "Split Share Corporations".
Investors in Canadian preferred shares are generally those who wish to hold fixed-income investments in a taxable portfolio. Preferential tax treatment of dividend income, as opposed to interest income, may in many cases result in a greater after-tax return than might be achieved with bonds.
United Kingdom Issuers
Perpetual non-cumulative preference shares may be included as Tier 1 capital. Perpetual cumulative preferred shares are Upper Tier 2 capital. Dated preferred shares (normally having an original maturity of at least five years) may be included in Lower Tier 2 capital.
There are various types of preferred stocks that are common to many corporations:
- Cumulative Preferred Stock - This type of stock is almost like a corporate bond in the sense that the company is obliged to pay the dividend if it makes a profit. In the case of a loss, the dividend will accumulate and has to be paid in future years.
- Non-cumulative Preferred Stock - Dividend for this type of preferred stock will not accumulate if it is unpaid.
- Convertible Preferred Stock - This type of preferred stock carries the option to convert into a common stock at a prescribed price.
- Participating Preferred Stock - This type of preferred stock allows the possibility of additional dividend above the stated amount under certain conditions.
- Perpetual Preferred Stock - This type of preferred stock has no fixed date on which invested capital will be returned to the shareholder, although there will always be redemption privileges held by the corporation.
- Retractible Preferred Stock - These issues have a retraction privilege whereby the holder may, after a date specified in the prospectus, force the issuer to redeem the shares. Such retractions are classified as "hard" (the holder will receive cash) or "soft" (the holder will receive common shares of the issuer).
This article is licensed under the GNU Free Documentation License. It uses material from the Wikipedia article "Preferred stock".