Question

Name the hybrid security that carries a fixed rate of dividend and is a source of long-term finance for a company. Explain any four types of such security.

Answer 1

Preference share capital, or simply preference shares, is a hybrid instrument that provides long-term financing and has a fixed dividend rate. These shares are a hybrid investment since they combine debt and equity and have a fixed dividend.

1. Cumulative Preference Shares: These shares give the shareholder the right to accrue unpaid dividends from prior years, which must be settled before any dividends are distributed to common shareholders.
2. Non-cumulative Preference Shares: These shares do not let stockholders to accrue unpaid dividends, in contrast to cumulative preference shares. A dividend is forfeited by the shareholder if it is not declared in a given year.
3. Participating Preference Shares: After distributing dividends to common shareholders, these shares enable shareholders to earn additional dividends beyond the fixed rate, which is depending on the company’s profits.
4. Convertible Preference Shares: After a predetermined amount of time or at the shareholder’s decision, these shares may be converted into common shares, allowing them to profit from future capital gains.