1 Chapter 10 Appendix The Special Case of Preferred Stock

2 It is neither wealth nor splendor, but tranquility and occupation, which give happiness. - Thomas Jefferson

3 Outline u Introduction u Types of preferred stock

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

5 Introduction (cont’d) u 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

6 Introduction (cont’d) u Characteristics of preferred stock (cont’d): 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

7 Introduction (cont’d) u Characteristics of preferred stock (cont’d): A corporation that owns less than 20% in a corporation can deduct 70% of the dividends received

8 Types of Preferred Stock u Straight preferred stock u Convertible preferred stock u Participating preferred stock u Cumulative preferred stock

9 Straight Preferred Stock u Straight preferred stock pays a fixed annual dividend in perpetuity u Straight preferred stock is the simplest type of preferred stock

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

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

12 Cumulative Preferred Stock u Cumulative preferred stock accrues any missed dividend amounts u The firm must pay past dividends before paying any common dividends