Question

You have an opportunity to buy either shares of common stock or shares of convertible preferred stock, for the same company. The Preferred stock is convertible to a set number of shares of common stock. All other things equal, would you consider buying the convertible preferred stock? What do you see as possible advantages to buying the convertible preferred stock?

Answer 1

• YES, I would consider buying the convertible preferred stock.
• The possible advantages to buying convertible preferred stock, and points to support above decision are summarised below:

>Dual benefits: Convertible preferred stock holder will get benefit of a general preferred stock upto the point they are converted. Once they get converted, the holder will start getting all the benefits of a common stock.

>Priority over common stockholders: The preferred stock holders are given priority over common stockholders so far as the distribution of dividend is considered. That is to say, common stockholders will not get any dividend unless first the dividends are given to preferred stock holders.

>Fixed dividend income: The dividend rates are generally predefined and fixed on the preferred stockholders and there is no uncertainty about the income to be received. For example, preferred stock are issued as “2%..” or “$ 2 per share” dividend rate.

>Regular Income: Preferred stockholders gets dividend income on regular basis even if the profits fall short of distribution. In case of insufficient profits, the arrear of dividend gets accumulated (in case of cumulative preferred stock). However, in case of Common stock, if there are no profit, there wont be any dividend either.

>Less Risk: Since the amount and payment of dividend income is certain, the risk is much less compared to the common stock.

>Benefits when converted to common stock: Once these stock get converted, the holder will be eligible for voting rights, increase in return, growth in investment because common stock enjoy these benefits.