preferred stock

Introduction

Preferential shares are a general term referring to certain kinds of stock that entitles the holders of such shares with special privileges or rights. Many corporations have opted to issue preferential shares instead of common stocks as a way to raise capital. With the issuance of these preferential shares, the company is under no obligation to pay dividends in comparison to the common stockholders.

Definition

Preferential shares come with a range of benefits, depending on the individual company. Typically, the benefits include priority in payment for dividends that are declared, priority in the payment of capital on the liquidation of a company, the right to receive a portion of the company’s assets if liquidation is necessary and higher voting rights than the common shareholders. In essence, the holder of preferential shares is a special shareholder who has more rights than the regular shareholders and whose shares are considered a tier above the common shares.

Benefits to Issuing Companies

Issuing companies also get benefit from issuing preferential shares. One of the biggest advantages that an issuing company may get is that these shares can be used as a tax deduction due to the way the repayment of capital is treated compared to a common dividend. Also, the dividend payments on the preferential shares are usually not subject to the same tax withholding requirements as for common dividends.

In addition, the issuance of preferential shares may have the effect of increasing the market value of the company’s common shares as the preferential shares may not fully be subscribed. This increase in valuation is due to the perceived decrease in the availability of common shares in the market. This then allows for shareholders to negotiate for higher dividend payments or for a buy-back of their shares.

Further, by issuing preferential shares the company helps to enhance its equity capital without taking on additional debt. This can be important for companies that are looking to raise their debt to equity ratio or limit their total liabilities to better reflect the financial needs of the company.

Drawbacks to Investors

Of course, one of the main drawbacks to investing in preferential shares is the fact that you may not get paid if the company liquidates its assets or if the dividend is not able to be repaid. The major advantage of preferential shares is the increased voting power, but this can often be negated by the lack of available cash. As a result, the holders of preferential shares will often have to take the necessary steps to protect their investments.

Conclusion

Overall, preferential shares can be an attractive option for companies looking to raise capital while giving their existing shareholders some protection through the voting rights and dividend payments associated with the shares. Investors also benefit from these shares as they provide an opportunity to increase their voting power and take advantage of certain tax benefits. However, there is some risk associated with these shares, particularly if the company does not have the capital needed to make dividend payments or if a liquidation of assets occurs. Consequently, investors should ensure that they are fully aware of the risks before deciding to invest in preferential shares.

Preference shares, also known as preferred shares, are a type of stock that offers certain rights and benefits over ordinary common stock. Preference shares typically pay a fixed dividend, and the dividend is paid before any dividends are paid to common stock shareholders. Preference shares also generally have priority over common stock when a company is liquidated, meaning preference shareholders are paid ahead of common stock shareholders in the event of a company’s complete liquidation. Preference shares do not typically give their holders the right to vote on company matters and they may have limited liquidation preference, meaning they are only entitled to a certain percentage or amount of the proceeds of the liquidation.

Preference shares are often issued with different classifications, such as cumulative or non-cumulative. Cumulative preference shares give their holders the right to “catch up” with past dividends if the company fails to make regular dividend payments. Non-cumulative preference shares do not have this feature, meaning shareholders are only entitled to dividends declared and paid from time to time. Preference shares can also have different “redemption rights”, which give a company the right to call and redeem the preference shares after a certain period of time. Finally, preference shares are often convertible into common stock, giving shareholders the right to convert their preferred shares into common stock at a certain price and after a certain period of time.

Preference shares are attractive to investors because they offer regular dividend payments, as well as potential capital appreciation if the company’s stock price increases. Preference shares also provide companies with a way to raise capital without diluting their existing equity and, unlike debt, they do not have to be repaid. For these reasons, preference shares are a popular capital-raising tool, particularly for companies with limited access to debt financing.