Zero-Dividend Preferred Stock

A zero-dividend preferred stock is one that is not compelled to pay dividends to its holders. A zero-dividend preferred shareholder earns income via capital appreciation and may get a one-time payment at the conclusion of the investment term.

• A zero-dividend preferred stock is one that does not pay a dividend.
• The common stock remains subordinate to the zero-dividend preferred shares.
• Zero-dividend preferred stock generates income through capital appreciation and may provide a one-time lump sum payment at the conclusion of the investment term.
• Zero-dividend preferred stock benefits issuers because it allows businesses to raise cash, has no voting rights, and pays no dividend.
• For investors, there are a few benefits and drawbacks to zero-dividend preferred stock.

When a corporation issues stock, it divides it into two categories: preferred stock and common stock. When it comes to dividends and asset distribution, preferred stock takes precedence over common stock and is thus regarded as less risky. Preferred stock does not normally have voting rights, although common stock does.

Owners of zero-dividend preference shares will not receive a regular dividend, but they will have reimbursement precedence over common shareholders in the case of bankruptcy. In such a case, they will receive a pre-agreed-upon lump payment.

In some aspects, zero-dividend preferred stock is similar to zero-coupon bonds, but they are considered lower tier than bonds. Nonetheless, they have a higher priority than regular stockholders in the event of a bankruptcy. This type of stock is usually backed by the issuer’s assets and can be used as a type of share in split capital investment trusts to create fixed capital growth over a predetermined length of time.

Investment trusts, particularly ones that may have difficulty obtaining long-term finance, are inclined to issue zero-dividend preferred shares. The term “zero-dividend preferred stock” is usually limited to a specified time period.

Issuing zero-dividend preferred shares allows an investment trust to raise capital in a way that is less difficult than getting a loan from a bank and often lasts considerably longer than a bank would generally be willing to lend for. Zero-dividend preferred stock also has fewer restrictions than a loan from a bank. A zero-dividend preferred stock is used to raise cash, but it has no voting rights and does not pay a dividend. It’s a very appealing option for a corporation to offer.

A zero-dividend preferred stock has many advantages and downsides for an investor.

Advantages

• The absence of dividend taxes, which are ordinarily levied. Furthermore, the lump sum payment would be taxed as a capital gain rather than net income, which would be taxed at a lower rate.
• There is a fixed expectation of a predetermined return within the time frame set for the stock.
• When compared to equities, these stocks are also less volatile.

Disadvantages

• Zero-dividend preferred equities, like bonds, are susceptible to rising inflation.
• If the market rises, this type of stock may be outperformed.
• Additionally, its yields are not guaranteed, and the underlying assets may depreciate in value during a market downturn.

Cite Term

Definition Sources