Legal Definitions - preferred dividend

A preferred dividend is a payment made by a company to individuals or entities holding its preferred stock. These dividends are characterized by their priority: they are typically paid out to preferred shareholders before any dividends can be distributed to common shareholders. This preferential treatment applies both during regular business operations when a company decides to issue dividends and in more critical situations, such as when a company faces financial distress or liquidation. In such scenarios, preferred shareholders have a superior claim to dividend payments compared to common shareholders.

• Example 1: Regular Dividend Distribution

  Imagine "Global Innovations Inc." had a very profitable year and announced it would distribute $15 million in dividends to its shareholders. The company has both preferred and common stock. Its preferred stock agreement specifies an annual preferred dividend of $3 per share. Before any funds can be allocated to common shareholders, Global Innovations Inc. must first pay the total amount due to its preferred shareholders. If there are 3 million preferred shares outstanding, $9 million ($3 x 3 million) would be paid as preferred dividends. Only after this obligation is met would the remaining $6 million be available for distribution to common shareholders.

  How this illustrates the term: This example clearly shows the priority of preferred dividends. They are paid first, fulfilling their fixed obligation, before any funds are made available for common shareholders.

• Example 2: Company Facing Financial Challenges

  Consider "Eco-Build Solutions," a construction company that experienced a challenging year due to unexpected project delays and increased material costs. While their profits were significantly lower than anticipated, they still managed to generate enough cash flow to cover their preferred dividend obligations. Despite not having sufficient earnings to justify paying any dividends to their common shareholders, Eco-Build Solutions paid the required preferred dividends to maintain investor confidence and adhere to their stock agreements.

  How this illustrates the term: This demonstrates that preferred dividends often have a stronger claim, sometimes being paid even when common shareholders receive nothing, highlighting the preferred status of these payments even during periods of financial constraint for the company.

• Example 3: Company Liquidation

  "FashionForward Retail," a clothing chain, files for bankruptcy and is forced to liquidate its assets. After selling off its inventory and properties, and paying its secured creditors (like banks), there's a limited amount of money left to distribute among its shareholders. The company has outstanding preferred dividends that were never paid during its operational difficulties. In the asset distribution process, the claims of preferred shareholders for their unpaid preferred dividends will be satisfied from the remaining funds before any money can be distributed to common shareholders, who would only receive a payout if there were funds left after all preferred claims are fully met.

  How this illustrates the term: This highlights the superior claim of preferred dividends in extreme situations like liquidation. Preferred shareholders stand higher in the payout hierarchy than common shareholders, ensuring their dividend claims are addressed first from any remaining assets.