4

As many are aware some common stocks pay dividends, and some don't. The company is under no obligation to pay dividends on common shares, and if a dividend on say, CVX exists one quarter, there's no guarantee CVX is willing to pay it the next; maybe they have a more pressing need like CAPEX for expansion or R&D.

But what about preferred shares, where the whole point of owning them is for the fixed dividend? Now obviously if a company can't afford to pay the dividend on the preferred shares, it gets cut and the shares drop in value. But does the contractual structure of the preferred shares make them more resistant to dividend cuts than the common, or in both cases is it completely up to the whims of the board of directors? If company XYZ has enough cash flow to pay the preferred shares, can they still opt out just like they can with the dividend on the common?

5

You are making some assumptions in your question that are not necessarily accurate, but the root of your answer will effectively be "what are the terms of the preferred shares?"

Some preferred shares are called 'cumulative preferred shares', meaning if the company fails to pay a dividend in 2016, it will need to pay it in 2017, in addition to the 2017 dividend (these dividends can continue to be deferred into the future, but must be paid eventually).

Some preferred shares are called 'non-cumulative preferred shares', meaning if the company fails to pay a dividend in 2016, it will never need to pay that dividend.

For either type of share, the actual reason they are called 'preferred', is that they get 'preference', over common shares. That means if a company pays any dividends at all, typically it needs to first pay out the preferred share dividends. Only then can the company pay out the common share dividends. Also, at the end of the company's life, the preferred shares must be repaid before the common shares. Preferred shares are repaid at a stated $ value, and common shares are paid with whatever is left over.

Note also that there are many possible terms that define the value of a share - for example, shares may or may not have voting rights, meaning voting preferred shares would control a company if there no were common shares with voting rights. There is too much to get into here, but suffice to say that this isn't true:

"where the whole point of owning them is for the fixed dividend?" The fixed dividend itself could be one of many reasons to own a preferred share.

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    Small quibble - if a company passes on the payment of a cumulative pref divi in one year, it does not "need to pay" any preferred dividends until such time as their management thinks it is appropriate (ie., not obliged to pay in the next year); though it will be required to pay the cumulative amount when it does start paying dividends again. – Nick Dec 5 '16 at 21:26
  • Oh, I see. Perhaps it was the wording "will need to pay it in 2017" that I have misread. – Nick Dec 5 '16 at 21:29
  • I understand the basics of preferred as far as cumulative vs. non-cumulative. My question is whether preferred dividends can be halted as easily as common stock dividends, or if there's some legal provisions built in to make this more difficult. (In the case of bonds, you can't just stop paying them on a whim, or there's harsh repercussions) – public wireless Dec 6 '16 at 20:54
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    @publicwireless Generally speaking, as pointed out in my answer above, preferred share dividends must be paid out before paying any dividends to common shareholders. That is what makes it more difficult to stop preferred share dividends. If the company were legally required to make payments no matter what, I think in just about every jurisdiction that would be considered some type of a bond/debt instrument, not shares. Note that all of this depends on corporate law in the jurisdiction of incorporation. – Grade 'Eh' Bacon Dec 6 '16 at 21:13
  • note: preferred shares are equity and not a loan to the company, as a bond is. In the event of an omitted preferred dividend, there is no preferred share "default", as would be true in the event of a bond. Further ,in liquidation, preferred shares have a higher priority to be paid at stated par value first, before common shares, and after bondholders are made good. – michael Dec 7 '16 at 3:50

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