Adjustable dividend rate preferred stock

Introduction

Adjustable-rate preferred (ARPS) shares are a special class of stock that feature adjustable dividend rates that are linked to movements in treasury rates or an index. They were first introduced in the early 80s and were designed as a way for companies to raise extra financing while maintaining flexibility. While they have much in common with traditional preferred shares, they differ in two important respects: their variable dividend rates and the fact that they usually carry equity features.

What are Adjustable-Rate Preferred Shares?

Adjustable-rate preferred shares are hybrids between a standard preferred stock and a convertible bond. Instead of having a fixed rate of dividend, the dividend rate can vary over the lifetime of the stock according to a predetermined formula. This formula will typically link the dividend rate to movements in the yields of treasuries or other reference index. Companies issue adjustable-rate preferred shares as a way of raising additional financing without incurring the binding terms of a traditional bond issue or diluting the existing shareholder base. Companies may also use adjustable-rate preferred shares to reduce volatility in their reported earnings, as pre-determined dividend payments can stabilize earnings.

Advantages of Adjustable-Rate Preferred Shares

There are several advantages to adjustable-rate preferred shares. Firstly, they give companies more flexibility to adjust their dividend rates according to changes in the market. This means that if rates rise, the company can adjust their dividend payments to accommodate the increased cost of borrowing. Secondly, adjustable-rate preferred shares do not require large interest payments as associated with traditional bond issues. This means that companies are not obligated to pay a steady stream of interest payments, allowing them to save on costs. Finally, adjustable-rate preferred shares can be structured in such a way that they will give the company the opportunity to convert them into ordinary shares, giving the company a way to boost the number of shares outstanding without having to resort to a traditional rights issue.

Risks of Adjustable-Rate Preferred Shares

Despite the benefits of adjustable-rate preferred shares, there are certain risks to consider. Firstly, the volatility of dividend payments can be a risky prospect for income investors as the dividend rate can change suddenly, depending on the movements in underlying rates or indices. This can make it difficult for income investors to predict the future yield of the stock. Secondly, the equity aspect of the stock can be a risky bet for investors, as the company may decide to convert the shares to ordinary shares, resulting in shareholders not receiving the designed dividend payment. Finally, the equity features of the stock can also be a risk, as the company’s share price may not recover quickly enough to offset any losses incurred if the dividend rate decreases.

Conclusion

Adjustable-rate preferred shares are a special class of stock that offer advantages to both issuing companies and investors. For companies, ARPS can offer more flexibility in terms of dividend rate adjustments and can provide a source of extra financing. For investors, they can be attractive as they offer an income stream while also having the potential to convert into ordinary shares. However, there are risks to consider, such as dividend volatility, the potential for conversion to ordinary shares, and the risk of share price declines. Investors should therefore assess the potential benefits and risks of adjustable-rate preferred shares before investing.

Adjustable Preference Shares

Adjustable Preference Shares, also known as Capital Variable Preference Shares, are a new type of equity instruments designed to create greater flexibility with respect to return on investment and capital security provisions.

The concept of adjustable preference shares is becoming more popular among equity investors and financial institutions due to their unique design and the flexibility they offer when compared to traditional common stock. These shares are essentially hybrid instruments that combine the elements of debt and equity. They offer the benefits of regular dividend payments, tax advantages and debt-like security, while providing the same upside potential of common shares.

The main feature of adjustable preference shares is that their dividend rates can be adjusted from time to time depending on the financial performance of the issuing company. This allows the company to better align the dividends with the performance of their underlying business. For example, if the company is doing very well, the dividends may be increased, while in times of slower growth, the dividends may be decreased.

Adjustable preference shares can also serve as an additional tool for companies to access capital and to provide much-needed financial support. Companies or financial institutions can use adjustable preference shares as an alternative to issuing debt or common shares. They can also use them to provide a steady stream of income to shareholders, while simultaneously limiting their potential risk.

Despite their potential benefits, there are several risks associated with adjustable preference shares. They may be subject to significant fluctuations in value when market conditions are volatile, and their payouts may not always be predictable or stable. Another potential risk is that the company may be unable to pay the dividend payments, resulting in the inability for the shareholder to receive returns.

Overall, adjustable preference shares are unique, flexible equity instruments that offer a range of potential benefits but also some additional risk. As with any investment decision, investors should carefully consider their personal risk tolerance before investing in adjustable preference shares.