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Preferred shares as fixed income

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A fixed dividend that is discretionary, ranks after debt and before common, may be cumulative, callable, retractable, convertible or variable-rate, has no maturity and usually no vote — and the arrears arithmetic when it is missed.

A share that behaves like a bond

A preferred share is equity — it sits on the shareholders' side of the balance sheet — but it is bought for a fixed dividend, stated as a rate on a par (often $25) or as dollars a year, and it is priced like a bond: by its yield against the market's. That is why the course files it under fixed income. The differences from a bond are the exam:

  • The dividend is discretionary. Directors may omit it; a missed coupon is a default, a missed preferred dividend is not — no trustee, no covenant, no bankruptcy.
  • It ranks after all debt in a wind-up and before common; dividends on preferred must be paid before any dividend on common.
  • It usually has no maturity and no vote — votes typically arrive only after dividends have been missed for a stated number of quarters.
  • Its features mirror the bond table: callable (issuer's option, at a premium), retractable (holder's), convertible into common (holder's), variable-rate (dividend resets to a benchmark), and cumulative — the feature the arithmetic below turns on.

Worked example — Maritime Ferries misses three quarters

Maritime Ferries has 400,000 cumulative preferred shares paying $1.25 a quarter. A bad year: the board omits three consecutive quarterly dividends. Under a cumulative provision the missed dividends do not vanish — they accrue as arrears, and every dollar of arrears plus the current dividend must be paid before common shareholders receive anything.

  • Arrears per share: =3*1.25 = $3.75.
  • Before common can be paid: arrears plus the current quarter, on every share — =(3.75+1.25)*400000 = $2,000,000.

Had the shares been non-cumulative, the three missed dividends would be gone; the board could pay the current $1.25 and then pay common. Arrears earn no interest — they are simply owed. Two missed quarters instead of three: arrears $2.50; $1,500,000 before common.

Preferred beside bond beside common

On the fixed-income line: a bond's coupon is a contractual interest payment, tax-deductible to the issuer; a preferred dividend is a distribution of after-tax profit, discretionary, and — for a Canadian individual holder — eligible for the dividend tax credit. On the equity line: common has the vote and the residual; preferred has neither, but stands ahead of common in the queue. Rank three claims on Maritime Ferries in a wind-up: debenture holders, then preferred, then common — and the same order for who gets paid in a normal quarter.

BondPreferredCommonPaymentcoupon —contractualdividend —discretionarydividend —discretionaryIf misseddefaultnot a default;arrears ifcumulativenothing owedRank in wind-upfirstafter debt, beforecommonlastMaturityyesusually nonenoneVotenousually noyesTo the issuerinterest —deductibleafter-tax profitafter-tax profitMaritime Ferries: 3 missed × $1.25 = $3.75 arrears; (3.75 + 1.25) × 400,000 = $2,000,000 before common.
Bond, preferred, common: the preferred takes the bond’s fixed payment and the common’s legal form. Missing the dividend is not a default; the queue is debt, then preferred, then common.
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