Bob Brinker's Marketimer

  Tuesday November 21, 2017

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WHAT IS CUMULATIVE PREFERRED STOCK?
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Simply stated, cumulative preferred stock accumulates dividends if they are not paid out when scheduled. No funds are actually saved, but a book entry is recorded for shareholders of record. If a company does not pay any dividends to preferred stockholders in one or more periods, it must first pay preferred stockholders the missed dividends, as well as any current dividend due, before paying any dividends on common stock.

For example, if Company ZYX failed to pay the set dividend to preferred stockholders for the first two quarters of the year and then decided to pay dividends for the third quarter, it would need to pay the preferred stockholders the accumulated dividends from quarters one and two as well as the dividend now due in quarter three before paying any dividends to the common shareholders.

In contrast, if a company decides not to pay out a dividend to the owners of common stock for a particular period, the common stockholders will never be reimbursed for the "missed" dividend. This is because common stock does not guarantee a dividend?fixed or otherwise. Instead, it allows the stockholders to share in the overall fortunes of the company. Common shareholders may receive much larger earnings than preferred shareholders, but they also incur a greater risk of receiving no earnings at all.

Most preferred stock is cumulative, although noncumulative preferred stock does exist. Income investors, those for whom regular dividends are important, choose cumulative preferred stock over non-cumulative.

Besides selecting cumulative preferred stocks, many investors sometimes also choose convertible preferred stock when available. Next, we will look at the option to convert.




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