Preferred stack is often called a hybrid security because it has some characteristics that are typical of debt and others that are typical of equity. The
following table lists several characteristics of preferred stock. Determine which of these characteristics are consistent with debt securities and which
are consistent with common stock.
Characteristic
May have a sinking fund provision
Usually has no specified maturity date
Usually has no voting rights
Debt Common Stock
Big Walnut Nut Company is required to repurchase and retire 5% of its preferred stock each year. Which type of provision does Big Walnut have in its
preferred stock agreements?
A sinking fund provision
A call provision
A participating provision
For the same issuing firm and on the same day of issuance, which security tends to have a lower after-tax cost to the issuer, debt or preferred stock?
Why is this the case?
Preferred stock, because preferred stock issues are not allowed to have sinking fund provisions
Preferred stock, because its has priority over debt in the payment of dividends and the distribution of liquidated assets
Debt, because its interest payments are not tax deductible
Debt, because its interest payments are tax deductible
