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What is Preferred Stock?
Preferred stock is a class of ownership in a corporation that provides shareholders with priority over common stockholders in dividend payments and asset claims, typically without full voting rights.
Definition
Preferred stock is an equity security that combines features of stocks and bonds, offering fixed dividends and preferential treatment over common shares.
Key Takeaways
- Preferred shareholders receive dividends before common shareholders.
- Dividends are often fixed and may be cumulative.
- Usually carries limited or no voting rights.
Understanding Preferred Stock
Preferred stock sits between common equity and debt in a company’s capital structure. While it represents ownership, it behaves more like a fixed-income instrument due to its predictable dividend payments.
Companies issue preferred stock to raise capital without significantly diluting voting control. For investors, preferred stock offers higher income stability than common stock, but typically less upside potential.
In liquidation, preferred shareholders are paid after bondholders but before common shareholders, making preferred stock less risky than common equity but riskier than debt.
Types or Variations
Cumulative Preferred Stock: Unpaid dividends accumulate and must be paid later.
Non-Cumulative Preferred Stock: Missed dividends are not recoverable.
Convertible Preferred Stock: Can be converted into common shares.
Callable Preferred Stock: Can be redeemed by the issuer at a set price.
Real-World Example
Many banks issue preferred stock to meet regulatory capital requirements. For example, large financial institutions issue cumulative preferred shares that pay fixed dividends to income-focused investors.
Importance in Business or Economics
Preferred stock provides companies with flexible financing while preserving control. For investors, it offers predictable income and priority claims, making it attractive for income portfolios and institutional investors.
Related Terms
- Common Stock
- Dividend
- Capital Structure
Sources and Further Reading
- Investopedia — Preferred Stock
- SEC Investor.gov — Stock Types
Quick Reference
- Pays fixed or stated dividends.
- Has priority over common stock.
- Limited voting rights.
Frequently Asked Questions (FAQs)
How is preferred stock different from common stock?
Preferred stock prioritizes dividends and liquidation claims but usually lacks voting rights.
Are preferred stock dividends guaranteed?
No, but cumulative preferred shares require unpaid dividends to be settled before common dividends.
Is preferred stock safer than common stock?
Generally yes, due to priority claims, but it still carries market and issuer risk.
