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Preferred Stock quiz #1

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1/23
  • What is preferred stock and how does it differ from common stock?
    Preferred stock is a special class of equity that typically has a fixed dividend percentage, higher par value, and no voting rights. It differs from common stock by offering dividend and liquidation preferences but does not allow holders to vote in company matters.
  • Why is preferred stock considered similar to debt, and how is it different?
    Preferred stock is similar to debt because it pays a fixed dividend, like interest on debt. However, it is different because it is classified as equity, not a liability, and does not have to be repaid like debt.
  • What rights do preferred stockholders give up compared to common stockholders?
    Preferred stockholders generally give up voting rights, meaning they cannot vote for the board of directors or on major company decisions.
  • What is liquidation preference in the context of preferred stock?
    Liquidation preference means that preferred stockholders are paid before common stockholders if the company is liquidated, after all liabilities are settled.
  • How are dividends for preferred stockholders calculated?
    Dividends for preferred stockholders are calculated as a fixed percentage of the par value of the preferred stock.
  • What is the typical par value range for preferred stock compared to common stock?
    Preferred stock usually has a higher par value, often between $10 and $100 or more, while common stock typically has a much lower par value, such as $0.50 or $1.
  • How is the issuance of preferred stock recorded in the accounting records?
    When preferred stock is issued, cash is debited for the amount received, the preferred stock account is credited for the par value, and any excess is credited to Additional Paid-In Capital (APIC) for preferred stock.
  • If a company issues 10,000 shares of $100 par value preferred stock at $125 per share, how is the transaction recorded?
    Cash is debited for $1,250,000, preferred stock is credited for $1,000,000 (10,000 x $100), and APIC–Preferred Stock is credited for $250,000 (the excess over par).
  • What is the dividend per share for 8% preferred stock with a $100 par value?
    The dividend per share is $8 (8% of $100).
  • How are total dividends distributed between preferred and common stockholders if the total dividend declared is $130,000, with 10,000 shares of 8% $100 par preferred stock and 50,000 shares of common stock?
    Preferred stockholders receive $80,000 (10,000 x $8), and common stockholders receive the remaining $50,000.
  • If the total dividend declared is less than the amount due to preferred stockholders, who receives the dividend?
    If the total dividend is less than the preferred dividend requirement, all of it goes to the preferred stockholders; common stockholders receive nothing.
  • How is the per share dividend for common stockholders calculated when the remaining dividend is $50,000 and there are 50,000 common shares?
    The per share dividend for common stockholders is $1 ($50,000 divided by 50,000 shares).
  • What happens if the total dividend declared is exactly equal to the preferred dividend requirement?
    If the total dividend equals the preferred dividend requirement, all of it goes to preferred stockholders, and common stockholders receive nothing.
  • What happens if the total dividend declared exceeds the preferred dividend requirement?
    Preferred stockholders receive their fixed dividend first, and any excess is distributed to common stockholders.
  • Why do companies issue preferred stock?
    Companies issue preferred stock to raise capital without diluting voting control and to attract investors seeking fixed income with higher claim priority than common stockholders.
  • Does preferred stock appear as a liability on the balance sheet?
    No, preferred stock is classified as equity, not a liability, on the balance sheet.
  • What is Additional Paid-In Capital (APIC) for preferred stock?
    APIC for preferred stock is the amount received from issuing preferred stock above its par value, recorded as part of equity.
  • Do preferred stockholders have any claim to retained earnings?
    Preferred stockholders do not have direct claim to retained earnings; their claim is limited to their fixed dividends and liquidation preference.
  • Can preferred stock dividends be skipped, and what happens if they are?
    Preferred stock dividends can be skipped if not declared, but if the stock is cumulative, unpaid dividends accumulate and must be paid before common dividends in the future.
  • How does the dividend preference of preferred stock affect common stockholders?
    Dividend preference means common stockholders only receive dividends after preferred stockholders have received their full fixed dividend.
  • What is the journal entry for issuing preferred stock above par value?
    Debit Cash for the total amount received, credit Preferred Stock for the par value, and credit APIC–Preferred Stock for the excess over par.
  • What is the main advantage of holding preferred stock over common stock?
    The main advantage is priority in receiving dividends and in liquidation payouts over common stockholders.
  • What is the main disadvantage of holding preferred stock compared to common stock?
    The main disadvantage is the lack of voting rights and limited potential for capital appreciation compared to common stock.