Preferred Shares: Meaning vs Common Shares

Preferred shares meaning

Preferred shares (called preference shares in Pakistan and the UK) are shares that must receive their dividend before any dividend is paid on common shares, and that rank ahead of common shares if the company is wound up.

Formal definition

A preferred share is an equity security with a dividend that is usually fixed, either as an amount or as a rate on its face value. It ranks after all creditors, including bondholders, but before ordinary shareholders, both for dividends and for any return of capital in liquidation. The exact rights come from the issue terms and the company's articles, not from the label. Read the prospectus or the share capital note in the annual report.

Hypothetical example

A company issues preference shares with a fixed annual dividend set as a rate on face value. The shares are cumulative, meaning any dividend the company skips is carried forward as "arrears."

Weak year: the board pays no dividend at all. Neither the preference holders nor the common holders receive anything. The unpaid preference dividend is recorded as arrears.
Strong year: the board wants to pay common shareholders again. It must first pay the preference holders the full arrears plus the current year's fixed dividend. Only the amount left after that can go to common shares.
If the shares were non-cumulative: the skipped dividend would be lost for good, and the board could resume common dividends after paying only the current year's preference dividend.

Preferred vs common shares

Feature	Preferred shares	Common (ordinary) shares
Dividend	Usually fixed, paid first	Variable, paid only after preferred
Voting rights	Usually none or limited	Normally full voting
Claim in liquidation	Ahead of common, behind creditors	Last in line
Upside if profits grow	Usually capped at the fixed dividend	Not capped
Price behaviour	Often moves with interest rates, like a bond	Moves mainly with company prospects

Edge cases experienced readers should check

Convertible: the shares can be exchanged for common shares on set terms.
Redeemable or callable: the issuer can buy them back at a set price. This limits price gains when rates fall.
Participating: holders get extra dividends above the fixed amount when profits are high.
Unpaid dividends are not a default: a skipped preference dividend is not a missed bond coupon. This is why the yield is usually higher than on the same company's debt.
Rate sensitivity: a fixed dividend makes the price react to interest rates in a similar way to bond duration.

Where you see the term

Annual reports: in the share capital note, in the statement of changes in equity, and as preference dividends deducted before earnings per share.
Exchange listings: some preference issues trade separately from the company's ordinary shares and are often thinly traded. In Pakistan, Securities and Exchange Commission of Pakistan (SECP), with trading in listed securities and commodities only via SECP-licensed securities and futures brokers.
News: bank capital raising, company restructuring, and reports of dividends "in arrears."

Preferred shares can still lose value. If the company fails, holders may recover little or nothing after creditors are paid.

Frequent questions

Are preference shares the same as preferred shares?

Yes. "Preference shares" is the usual term in Pakistan and the UK. "Preferred shares" is the US term.

Is a preferred dividend guaranteed?

No. The board can skip it. With cumulative shares, the missed amount must be paid before any common dividend is paid again.

Do preferred shareholders vote?

Usually not, or only on matters that affect their own rights. Check the issue terms.

Are preferred shares safer than bonds?

No. They rank behind all creditors, including bondholders, so in a liquidation they are paid after debt.

Preferred shares