Question

Should the preferred stock be classified as debt or equity? Does it matter if the classification is made by the firm’s management, creditors, or equity investors?

Answer 1

1) Should the preferred stock be classified as debt or equity ?

Answer: Preferred stock should be classified as Equity

Explanation:

1) Even though preferred stock has both the features of equity and debt.

2) Equity because of it is term as preferred stock and classified under stockholders equity.

3) Debt because preferred stock are entitled to fixed payment of dividend in some cases.

4) Here question is relating to classification. So, it is classified as Equity rather than Debt.

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2) Does it matter if the classification is made by the firm’s management, creditors, or equity investors?

1) Firm’s management will classify as Equity

2) Creditors will classify as Equity

3) Equity Investors will classify as Debt.

Explanation:

1) firm’s management, creditors will classify as equity because there are part of stockholders equity, a class of ownership in the corporation and preferred stockholders claim will be entertained after Creditors.

2) Equity Investors will see Preferred stock as Debt because there can claim fixed payments in the form of dividend in some cases and preferred stock holders will be entertained first rather than equity investors at the time of liquidation.