Definition
A Preferred Dividend is a dividend that is accrued and paid on a company’s preferred shares. It is often fixed and paid prior to any dividends on common shares. It takes precedence over ordinary dividends during distribution of a company’s earnings or liquidation proceeds.
Phonetic
The phonetic pronunciation of the keyword “Preferred Dividend” is: Preferred – /priˈfərd/Dividend – /ˈdiviˌdend/
Key Takeaways
Sure, here you go:
- Profit Distribution: Preferred dividends are cash distributions that a corporation gives to its shareholders from its profit. These dividends are called ‘preferred’ because the stockholders who possess them are granted a higher claim on the earnings and assets of the company.
- Fixed Dividends: These dividends are typically set at a fixed rate. This means that if a company makes more profit than expected, preferred shareholders won’t receive more than their predetermined amount. However, they will still receive their fixed amount even if the company doesn’t perform as well as expected.
- Cumulative Feature: Many preferred dividends have a cumulative feature, which means that if a company fails to deliver the promised dividend in one year, it must make up for it in a subsequent year before any dividends are paid to common shareholders.
Importance
Preferred dividends are crucial in the business and finance realm because they represent the dividends that are accrued and paid on a company’s preferred shares. Unlike common dividends, preferred dividends have a higher claim on the assets and earnings of a corporation. This means that if a company ends up in a situation of bankruptcy or liquidation, preferred stockholders receive their share before the common stockholders. Also, if a company skips a dividend, they must pay it later because preferred dividends are cumulative. Hence, from an investor’s perspective, these dividends are safer and provide a steady stream of income, making preferred stocks more attractive. Thus, the term plays a vital role in investment decisions and corporate financial management.
Explanation
The purpose of Preferred Dividend lies in its promises to offer a preferential treatment to certain class of shareholders, known as preferred stockholders, within a company structure. These shareholders receive dividends before common stockholders, and this makes preferred stocks an attractive investment option, particularly for individuals seeking a steady stream of income. Preferred dividends, therefore, serve as an influential tool for companies to attract investments, since a steady flow of dividends often represents financial stability. Businesses may leverage this mechanism to raise capital without adding more debts.Furthermore, the use of preferred dividends provides an opportunity to ensure the company’s profits are concurrently distributed to the shareholders, while retaining a portion for future growth and investments. This allocation of profit, in turn, acts as a motivator for existing shareholders to maintain or increase their stake into the company. Adding to it, preferred dividends can act as a financial buffer during economic downturns. In difficult times, the company can potentially withhold dividends to common stockholders whilst still maintaining their obligations to preferred stockholders, thereby ensuring their commitment and support.
Examples
1. Example 1: Coca-Cola CompanyCoca-Cola is a prevalent example of a company that pays preferred dividends. The company issues both common and preferred shares. The preferred shareholders have the right to receive dividends before any dividends can be paid to the common shareholders. This type of dividend is fixed and pays a consistent amount per period. 2. Example 2: PNC Financial ServicesPNC Financial Services is another example of a company paying preferred dividends. In 2016, PNC’s Board of Directors declared a quarterly dividend on the outstanding Series P and Q preferred stocks. Investors who had purchased these preferred stocks received their dividends payments before those who purchased common shares. 3. Example 3: Wells Fargo & Company Wells Fargo is one of the major multinational financial services companies in the United States which offers preferred stocks. In 2021, the bank announced it would pay $1,225 per share for its Series N preferred stock and $1,000 per share for its Series L preferred stock as part of its quarterly preferred dividends, serving as a fixed income for preferred stockholders before any payment is made to common shareholders.
Frequently Asked Questions(FAQ)
What is a preferred dividend?
A preferred dividend is a distribution of profits made by a corporation to its preferred shareholders. It is typically fixed and is received before any dividends are paid to common shareholders.
What makes preferred dividends unique?
Preferred dividends are unique because the shareholders who receive these dividends have a higher claim on the earnings and assets of a company. That means in case of bankruptcy, preferred investors will get paid before common shareholders.
Are preferred dividends mandatory to pay for a company?
While it can differ from company to company, typically, a company is obligated to pay dividends to preferred shareholders. However, the board of directors may decide not to pay if the company does not have enough profit.
Do preferred dividends always stay the same?
Generally, preferred dividends are fixed. The dividend yield is determined when the share is issued and it doesn’t change over the life of the share, unlike common dividends which can fluctuate.
Do preferred dividends get paid out annually?
It’s common for preferred dividends to be distributed on a quarterly basis, but some companies may choose to distribute them annually or semi-annually.
Is there a risk involved with preferred dividends?
Yes, if a company encounters financial difficulties and goes into bankruptcy, there may not be enough asset value to cover the preferred dividends.
Are preferred dividends tax-deductible for a company?
Typically, preferred dividends are not tax-deductible for the company as they are considered a distribution of profit.
Are preferred dividends taxable for shareholders?
Yes, in most jurisdictions, preferred dividends are taxable income for shareholders, although the rate may vary depending on individual circumstances.
Related Finance Terms
- Cumulative Preferred Stock: This is a type of preferred stock that accumulates any dividends that are not paid to the shareholder to be disbursed later.
- Participating Preferred Stock: This is a type of preferred share where the shareholder may receive additional dividends if the company achieves certain financial goals.
- Par Value: This term refers to the face value of a bond or stock as stated by the issuer, and it’s the value upon which the dividend for a preferred stock is calculated.
- Rate of Dividend: It is the percentage of the par value that is paid out as a dividend to the preferred stockholders.
- Dividend Yield: This is a financial ratio that shows how much a company returns in dividends each year relative to its share price. It’s a way to measure the income generated by an investment in a stock.
