Chapter 10 Appendix The Special Case of Preferred Stock

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Chapter 10 AppendixThe Special Case of
Preferred Stock
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Introduction

• Preferred stock is an equity security
• Preferred stock is classified as a fixed-income
  security from an investment perspective
• Utility companies are common issuers of preferred
  stock

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Introduction (contd)

• Characteristics of preferred stock
• Pay higher dividends than common stock
• Preferred shareholders have priority over common
  shareholders in the event of corporate
  liquidation
• Preferred shareholders must receive their
  dividends before common shareholders receive
  anything

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Introduction (contd)

• Characteristics of preferred stock (contd)
• Most preferred stock receives a set annual
  dividend
• Preferred stock normally provides no growth of
  income and no price appreciation
• The value of preferred stock is influenced by
  interest rate movements

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Introduction (contd)

• Characteristics of preferred stock (contd)
• A corporation that owns less than 20 in a
  corporation can deduct 70 of the dividends
  received

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Types of Preferred Stock

• Straight preferred stock
• Convertible preferred stock
• Participating preferred stock
• Cumulative preferred stock

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Straight Preferred Stock

• Straight preferred stock pays a fixed annual
  dividend in perpetuity
• Straight preferred stock is the simplest type of
  preferred stock

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Convertible Preferred Stock

• Convertible preferred stock is like straight
  preferred stock
• Additionally, the owner has the option to
  exchange the shares for a set number of common
  stock or some other security

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Participating Preferred Stock

• Participating preferred stock issues have the
  provision that shareholders may receive
  additional dividends in very profitable years
• Participating preferred stock is less susceptible
  to interest rate risk than straight preferred
  stock

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Cumulative Preferred Stock

• Cumulative preferred stock accrues any missed
  dividend amounts
• The firm must pay past dividends before paying
  any common dividends