Investments
Investments
11th Edition
ISBN: 9781259277177
Author: Zvi Bodie Professor, Alex Kane, Alan J. Marcus Professor
Publisher: McGraw-Hill Education
Question
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Chapter 2, Problem 1PS
Summary Introduction

To determine: The ways in which preferred stock is like long-term debt and equity.

Introduction: The preferred stock is defined as the stock in which the holder of the stock has a fixed dividend and the payment of this stock has a higher priority in comparison of the ordinary share dividends.

Expert Solution & Answer
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Explanation of Solution

The preferred stock act like a long-term debt because of the following points −

  • It acts like perpetuity in which it pays a fixed amount every year.
  • The holder of the preferred stock does not get any voting rights in the firm.

The preferred stock also acts like equity because of the following points −

  • The firm does not have any contractual obligation for the payment of the preferred stock dividend. If the firm is failure to make payment, then in this case, the firm cannot be declared bankrupt.
  • When the firm is declared bankrupt, then in this case preferred stock will have higher priority than the common equity but it will have lower priority than the bonds.

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