Preferred Shares

What is plain vanilla/ straight preferred shares?

- A fixed dividend - A place ahead of the common shares as to dividends and its claim on assets - Have fixed dividends, trade like long-term bonds in response to interest rate changes

What is convertible preferred shares?

- Convert to some other security (usually a common share) at a set price for a stated time period - Same idea as a convertible bond - If market price of common stock rises above the conversion price, then the preferred will rise in price accordingly

What are the return characteristics of preferred shares?

- Little opportunity for capital gain - Like a bond, preferred will vary in price in response to interest rate changes - Unlike a common share, it does not participate in the growth of the company - As with common share dividends preferred shareholders benefit from the dividend tax credit

Why issue preferred shares to raise capital?

- Offers flexibility not found in debt: - No maturity date - Can omit the dividend if in financial difficulty without putting the firm into bankruptcy - Too much debt already or not enough assets to pledge as collateral - Broadens the equity base without giving a vote to the new shareholders

How are preferred shares traded?

- Preferred shares of public companies are listed for trading on a stock exchange - In Canada many preferred shares are listed on TSX - Most have been issued by companies with high credit ratings such as bank and utilities

What are variable or floating rate preferred shares?

-Dividends fluctuate with changes in interest rates -Issuer may want some component of preferred capital to have a dividend that floats with short term interest rates -A money market rate, e.g. bankers' acceptances, is used as the reference rate

What are preferred shares with warrants?

-Investors receive a preferred issue plus a warrant (or fraction of a warrant)

What is the valuation process of preferred shares?

-The required rate of return for a company's preferred stock will be related to the yield-to-maturity for its long term bonds. -Typically will be higher that its bond YTM as the preferred shares rank behind the bonds (and all other debt) and are riskier

How do rating agencies assess the quality of preferred shares?

-Try to assess the issuer's past performance and forecast its future ability to pay

How can warrants be sold?

-Usually be detached and sold separately

What are warrants?

-Warrant is a type of long term call option entitling the holder to purchase new common shares of the issuer at a stipulated price within a stated time limit.

What are the standard features of preferred shares?

1. Cumulative: if dividends are not paid then they accumulate in arrears and must be paid up to date before common dividends can be paid. 2. Non-Voting: Can sometimes have votes, e.g. in private companies, or if a matter only concerning the preferred shareholders is being considered. 3. Callable/Redeemable: The issuing company can, but is not obliged to, buy them back at a pre-arranged price.

What are the 5 types of Preferred Shares?

1. Plain Vanilla/ Straight 2. Convertible 3. Retractable 4. Variable or Floating Rate 5. Preferred Shares with Warrant

What are Preferred Shares?

A class of shares which entitles the owner to: - A dividend which ranks ahead of that paid to the company's common shares - A claim on the company's assets which ranks ahead of the common shares if the company should be dissolved

What are the regulatory requirements of Preferred Shares?

Banks are required to maintain a certain level of shareholders' capital and may use preferred shares instead of common shares for this purpose.

Who buys preferred shares?

Income-oriented investors

What are retractable preferred shares?

The holder of the preferred can force the company to buy them back on a specified date at a specified price.

What happens if the board of directors decide to stop paying preferred dividends?

The preferred shareholders CANNOT petition the company into bankruptcy

What is the benefit of a warrant?

They make an issue easier to sell and also allow for a lower dividend rate then a preferred share without the warrant.

Are most convertible preferred shares redeemable?

Yes, it allows the issuer to force conversion into common shares when the common share price has risen above the conversion price.