What is 'Participating Preferred Stock'

Participating preferred stock is a type of preferred stock that gives the holder the right to receive dividends equal to the normally specified rate that preferred dividends are paid to preferred shareholders, as well as an additional dividend based on some predetermined condition. Participating preferred stock can also have liquidation preferences upon a liquidation event.

BREAKING DOWN 'Participating Preferred Stock'

Participating preferred stock– like other forms of preferred stock – takes precedence in a firm's capital structure over common stock but ranks below debt in liquidation events. The additional dividend paid to preferred shareholders is commonly structured to be paid only if the amount of dividends that common shareholders receive exceeds a specified per-share amount. Furthermore, in the event of liquidation, participating preferred shareholders can also have the right to receive the stock's purchasing price back as well as a pro rata share of any remaining proceeds that the common shareholders receive.

When there is a liquidation event, whether an investor's preferred stock is participating or nonparticipating will determine if that investor receives additional consideration over the liquidation value of the preferred stock and any dividends owed to the investor. If an investor's preferred stock is participating, that investor is entitled to any value leftover post-liquidation as if that stock had been common stock. Nonparticipating preferred shareholders, on the other hand, receive their liquidation value and any dividends in arrears if applicable, but they are not entitled to any other consideration.

Participating preferred stock is rarely issued, but one way in which it is used is as a poison pill. In this case, current shareholders are issued stock that gives them the right to new common shares at a bargain price in the event of an unwanted takeover bid.

Example of Participating Preferred Stock

Suppose Company A issues participating preferred shares with a dividend rate of $1 per share. The preferred shares also carry a clause on extra dividends for participating preferred stock, which is triggered whenever the dividend for common shares exceeds that of the preferred shares. If, during its current quarter, Company A announces that it will release a dividend of $1.05 per share for its common shares, the participating preferred shareholders will receive a total dividend of $1.05 per share ($1.00 + 0.05) as well.

Now consider a liquidation event. Company A has $10 million of preferred participating stock outstanding, representing 20% of the company's capital structure with the other 80%, or $40 million, made up of common stock. Company A liquidates, and the proceeds are $60 million. The participating preferred shareholders would receive $10 million but also would be entitled to 20% of the remaining proceeds, $10 million in this case (20% x $60 million - $10 million). Nonparticipating preferred shareholders would not receive the additional consideration.

RELATED TERMS
  1. Preference Shares

    Preference shares are company stock with dividends that are paid ...
  2. Preferred Stock

    Preferred stock refers to a class of ownership that has a higher ...
  3. Preferred Dividend Coverage Ratio

    The preferred dividend coverage ratio is the ratio that measures ...
  4. Adjustable-Rate Preferred Stock ...

    A preferred stock whose dividends vary with benchmarks like T-bill, ...
  5. Noncumulative

    Noncumulative, as opposed to cumulative, refers to a type of ...
  6. Preferred Stock ETF

    A preferred stock ETF is an exchange-traded fund that either ...
Related Articles
  1. Investing

    Understanding Preferred Stocks

    Companies choose preferred stock for many reasons some being the flexibility of payments and easier to market. Learn the pros and cons of preferred stocks.
  2. Managing Wealth

    What You Need To Know About Preferred Stock

    Curious about preferred shares? Here's what you should know about these bond-like instruments.
  3. Managing Wealth

    The Different Between Preferred and Common Stock

    Preferred and common stocks are different in two key ways.
  4. Investing

    Introduction to Convertible Preferred Shares

    These securities offer an answer for investors who want the profit potential of stocks but not the risk.
  5. Managing Wealth

    Analyzing GE's Preferred Stock (GE)

    Learn why General Electric Company's new Series D Perpetual Preferred stock is an excellent choice for investors desiring a safe and steady income stream.
  6. Insights

    Why Warren Buffett Prefers Preferred Stock (GS, BAC)

    Warren Buffett recently made a tidy profit his investment in Kraft Heinz's preferred stock. He's pulled this off before, with Goldman Sachs and Bank of America. What makes this kind of stock ...
  7. Investing

    Know your shareholder rights

    Common-stock owners have numerous privileges and should be vigilant in monitoring a company. Read on to learn what rights you have as a shareholder.
  8. Investing

    How Dividends Affect Stock Prices

    Find out how dividends affect the underlying stock's price, the role of market psychology, and how to predict price changes after dividend declarations.
RELATED FAQS
  1. Preference and Ordinary Shares

    Preferred shareholders have a higher priority claim to the assets of a corporation in case of insolvency than common shareholders. Read Answer >>
  2. What are the advantages and disadvantages of preference shares?

    Learn about the advantages and disadvantages of preference shares for both investors and issuing companies. Read Answer >>
  3. What are some examples of preferred stock, and why do companies issue it?

    Understand the difference between preferred stock and common stock, and learn the primary reasons why companies issue preferred ... Read Answer >>
  4. What is the difference between preferred stock and common stock?

    Preferred stockholders have a greater claim to a company's assets and earnings than common stockholders, but may not have ... Read Answer >>
Trading Center