Preferred Shares

Preferred shares, a security

Preferred shares are equity authorized by state corporate statutes. Preferred shares are usually authorized in the articles of incorporation which also contain their contract rights.

In most cases, preferred shareholders are paid fixed dividends after the creditors are paid their interest but before the common shareholders are paid dividends. Since preferred shares are considered equity, their holders have no right to be paid like creditors. Rather, preferred shareholders are paid when the board of directors authorizes payment (that is, delcares dividends). In liquidation the preferred sharehodlers are paid their liquidation preference after the creditors but before the common shareholders. Therefore, preferred sharehodlers have higher risk than creditors in receiving a return and repayment but less risk than common shareholders.

Preferred shareholders usually do not have the rights of the common shareholder to vote and control the corporation or share in the increased return if the corporation is successful.

Preferred shares are an unusual security which has the disadvantages of both debt (little direct control or potential for increased return) and common shares (lower priority and greater risk) without any of their respective advantages. One may ask why there is a market for preferred shares? Preferred shares attarct investors because they tend to pay higher dividends. In addition, since dividend payments to corporate shareholders are partially nontaxable, there is a market for preferred shares among corporate investors.