Preferred stock is defined as a type equity that has priority over common stock in terms of dividend payment and asset distribution in the event of liquidation. Basically it is a hybrid security that actually shares features with both debt and common stock. Further, it has the following features, convertibility to common stock, nonvoting right, and callability at the corporation’s option. However, its usage does not actually increase the probability of the firm’s bankruptcy. It pays dividend just like common stock out of the firm’s after-tax income (Brigham & Houston, 2009).
In case the preferred stock does not have a stated date of maturity, its cost is determined using the following formula (Brigham & Ehrhardt, 2013).
Cost of the Preferred Stock = the dividend on Preferred stock/ (Price of Preferred stock/1-Flotation Costs)
Whereby the price of preferred stock is basically the current market value while the floatation costs are the preferred stock’s underwriting costs which are usually given as a percentage. Firms that use preferred stock should include its cost in their weighted average cost of capital (WACC) formula (Brigham & Ehrhardt, 2013).
Three publicly-traded companies that have preferred stock in their capital structure include:
American Capital Agency Corp. (NASDAQ: AGNC)
This is mortgage REIT that basically invests in agency securities that their interest and principal payments are usually guaranteed by US Government-sponsored entity (Federal National Mortgage Association) and the US Government agency (Government National Mortgage Association)
Wells Fargo and Company
This is an American multinational company that deals in banking and financial servicers hence providing mortgage, banking, credit card, insurance, investing, and commercial and consumer financial services.
Bank of America Corporation
This is an American multinational corporation that deals in banking and financial services and is has its headquarter in Charlotte, North Carolina.
Brigham, E. F., & Houston, J. F. (2009). Fundamentals of financial management. Mason, OH: South-Western Cengage Learning.
Brigham, E. F., & Ehrhardt, M. C. (2013). Financial management: Theory and practice. Mason, Ohio: South-Western.
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