What is a preference share?
A preference share (or preferred stock) is a hybrid instrument between an ordinary share (common stock) and a bond. The main purpose of a preference share is to give the owner priority to the company's dividend payouts and to the company's assets if the company were to go bankrupt or be liquidated.
Difference from ordinary shares
While ordinary shares are largely evaluated based on the company's future growth potential and capital appreciation, preference shares are often valued more like fixed-income securities. Preference shareholders receive a predetermined dividend (which is paid out before ordinary shareholders receive anything), but they generally do not participate in the company's profit growth to the same extent. Additionally, preference shares often have fewer or weaker voting rights at the general meeting.
Why do companies issue preference shares?
- For the company: A way to raise capital without diluting voting rights too much.
- For the investor: Offers a more stable and predictable dividend yield compared to ordinary shares, and provides a safer position in the capital structure (after creditors but before ordinary shareholders).