Inventions Articles Social Engineering Challenges Business English Simulations

Preferred Shares

To raise money, a company could sell preferred shares to investors who find the terms of the shares attractive. In contrasts to common shares, preferred shares have an obligatory annual dividend, somewhere around 3 to 20% of the nominal price of the preferred share (for example, an $8 annual payment for a $100 share). The company is obligated to pay that dividend if the company is financially healthy. In the company's legal articles, dividends to common shares cannot be paid until the preferred shares are paid first. In other words, if the company is profitable, the preferred shares get their stated share of the profits before any dividends go to the common shareholder. But if the company is very profitable, the preferred only get their stated dividend and the common shares get the rest of the profits.

If the company is not financially healthy, the company can defer paying the dividend. In this way, the company does not put itself in a weaker financial position. However unpaid dividends usually accumulate and must be paid in full before the common shares can receive any dividend from the company.

In Consensus, the corporate equivalent of “common shares” will be the dividend-earning profiles, which will be explained later into this website.

In accounting theory, preferred shares represent a part of the equity of the company. However, these shareholders actually don't own much of the company other than the right to earn preferred dividends. If the company profits are extremely good, the value of the preferred share is mostly based on the stated dividend, yet the value for the common share can increase significantly. However, if the company fails and is forced to liquidate, the preferred shareholders will be reimbursed up to their nominal value (if there is any value after liquidation) before the common shareholder gets anything.

The main advantage for the company to issue preferred shares is the flexibility of paying or not paying dividends. The advantages for the investor to buy preferred shares are: firstly, usually a higher rate of return than earning bond interest; and secondly, a higher security than common shares.

Issuing preferred shares has one important advantage for Consensus Corp (CC). Preferred shareholders really can't put much pressure on management to maximize profits. As long as CC is paying its operating costs and the preferred dividends, the high ring really has no further obligation to the preferred shareholders. In other words, if the general community of Consensus feels it can forego certain profit opportunities, it has no pressure to take these opportunities to maximize its value to shareholders.

There are several variations of preferred shares. One variation CC should adopt is to make the preferred shares “redeemable.” That is, Consensus can repurchase the preferred share from the shareholder, thereby no longer being obligated to pay the annual dividend. I recommend that CC adopt this variation—and make a financial goal to slowly redeem all the preferred shares.

I propose the following financial specifications CC should issue for the preferred shares. I suspect that these terms will change as the project manager does further research:

  1. Each preferred share will cost $100 (or approximate amount in the working currency of Consensus).
  2. Minimal purchase will be about $2000, enough to justify administration costs for issuing and future handling of shares.
  3. Each share will pay an annual dividend of about $5-$15 on a certain date each year. I will state $9 for now.
  4. The dividend is not payable if CC is not in a good financial position to pay dividends. This condition will be decided by the high ring in CC.
  5. Unpaid dividends will accumulate.
  6. Interest will not accrue on the unpaid dividends.
  7. Dividends to dividend-earning profiles cannot be paid until preferred shares have been fully paid.
  8. The high ring will make the decision to redeem shares.
  9. The shares can be redeemed with a $2 premium over its stated dividend. If the high ring decides to redeem shares, CC will pay $111 ($100 + $9 + $2) to redeem that share. Shares shall be redeemed in the order they were issued. Not all shares need be redeemed at the same time.
  10. No shares can be redeemed unless all preferred dividends have been paid in full.
  11. The preferred shares have no voting rights in CC.

The above list assumes the currency is in Canadian dollars. The working currency of Consensus may not be the Canadian dollar. We shall let the project manager determine the working currency.

Return to Foundation Stage

Return to Financing

Return to Development Stage

Facebook Governance Business Consensus Main Menu

 
© 2015 Dave Volek.
All Rights Reserved.