Are Preference Shares a Good Long-Term Investment?

“In investing, what is comfortable is rarely profitable.” — By Robert Arnott

Photo by Ishant Mishra on Unsplash

Preference shares also defined as preferred stock are distinctive shares of a company stock that offers preferential rights to dividends announced by the company.

This means that the company is supposed to pay dividends to preference shareholders first and later to the equity shareholders.

As a result, preference shareholders receive dividends first and have first access to the company’s assets before common stockholders in the case of bankruptcy.

The dividend is predetermined for preference shareholders, but they do not have voting rights like common shareholders.

Salient features of Preference Shares:

• Pre-eminent Dividend: As previously stated, one of the benefits of shareholders is that preferred shares have a predetermined dividend that must be paid before any dividend(s) to common shareholders can be paid. While dividends are only paid if the company makes a profit, some preferred shares, such as cumulative shares, allow unpaid dividends to accumulate.
• Consistent Remuneration: The fact that dividends are paid to stockholders on certain dates is a feature that is under-publicized. It’s not too dissimilar to a monthly salary.
• Firm Assets: Preference shareholders have a higher claim on company assets than regular shareholders in the case of liquidation or bankruptcy. This makes these stocks especially appealing to investors with a low-risk tolerance.

Advantages of Preference Shares:

(A) To the shareholders:

• Investors who are afraid of risk: Preference shares are easily offered to investors who seek a decent level of capital security and a consistent and predictable return.
• Dividends are not required: If a company’s profits are insufficient in a given year, it is not obligated to pay a dividend on preference shares. In the event of cumulative preference shares, it can potentially postpone the dividend. Its finances are not burdened in any way.
• There is No Interference: Preference shares, in general, do not have voting rights. As a result, a corporation can raise funds without dilution.
• Trading with your own money: Preference shares have a fixed dividend rate. As a result of the increase in earnings, the corporation can provide equity shareholders the benefits of trading on equity.
• Assets are not subject to a charge: Preference shares do not generate a lien or charge on the company’s assets. The corporation can retain its fixed assets free in the future to raise financing.

(B) To the Management:

• Because preference shareholders do not have voting rights, no organized groups exist to corner the market and seize control of the company.
• The bonus shares are not offered to preference shareholders.

Disadvantages of Preference Shares:

(A) To the shareholders

• No Voting Rights: Because preference shares have no voting rights, equity shareholders may harm the preference shareholders’ interests.
• Preference owners will suffer a loss if the Board redeems the preference shares during a period of downturn.

(B) To the Management

• Dividend Accumulation: In the event of cumulative preference shares, the arrears of the preferred dividend accumulate. It is a long-term financial burden for the business.
• No Income Tax Exemption: Because preference dividends are not tax-deductible, the corporation must earn more. The dividend to equity stockholders will be impacted if this does not happen.

Conclusion:

For risk-concern stock investors, preference shares are a good option. They are often used by elites and professional investors as they provide a balanced and stable income flow of dividends. Although preferred share investors do not have any voting rights in the decision-making of the firm, however, one will get the payment of the dividends before the common stockholder.

Preference shares are a safe, secure, and steadier long-term source of investment.

Disclaimer — This article is for educational purposes only. The author is not responsible for any loss/profits of anyone.

I hope you enjoyed reading this; I recommend that you check into different long-term investment options and compare them to find the ideal and most rewarding long-term investment option. Good luck!

Thanks & regards,
Mohammad Basit (aka Mbwrites)

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