Preference shares are a type of share with priority to dividends and capital over ordinary shareholders. They are used both on the stock exchange and in the unlisted market and suit investors looking for stable, predictable dividends.
What are preference shares?
A preference share is a type of share that gives the holder priority over ordinary shareholders in two important situations: dividends and liquidation. This means that preference shareholders receive their dividend first, before anything can be paid out to the ordinary shareholders.
Preference shares are often described as something between a share and a corporate bond. You get stability and priority, but give up some of the upside and the voting rights that ordinary shares offer. In Swedish they are sometimes called "preffar".
How do preference shares work?
When a company distributes money, the dividend goes to the preference shareholders first. Only once they have received theirs can the ordinary shareholders receive a dividend. The size of the dividend is usually predetermined and fixed, for example SEK 10 per share per quarter, and does not vary with the company's results in the same way as ordinary share dividends.
If the company cannot afford to pay a dividend in a quarter, the debt often accumulates. This means that outstanding dividends must be paid to the preference shareholders before the ordinary shareholders can receive anything in the future. Exactly how this works is governed by the terms in the company's articles of association.
Simple example: The company makes a profit and is to pay a dividend. The preference shareholders receive their SEK 10 per share first. What is left goes to the ordinary shareholders. If things go badly and the dividend is cancelled for a quarter, the debt accumulates and must be paid first the next time the company pays a dividend.
Dividends on preference shares
The dividend on preference shares is what makes them attractive to many investors. It is usually paid quarterly, is predetermined at a fixed amount per share and is paid out before the ordinary share dividend. This makes preference shares a good fit in a dividend portfolio where even cash flows are important.
One drawback is that the dividend does not grow in line with the company. However well things go, you receive your predetermined SEK 10 per quarter. Ordinary shareholders, by contrast, can receive a higher dividend if the company performs well.
Redemption of preference shares
Most preference shares have a redemption clause that gives the company the right to buy back the shares at a predetermined price, called the redemption price. Redemption often happens when interest rates change or when the company no longer needs preference capital.
It is important to know the redemption terms before you invest. If you buy the share at a price above the redemption price, you risk making a capital loss when the company chooses to redeem. Always check the articles of association for the specific terms.
Preference shares vs ordinary shares
The two types of share differ on several important points:
| Characteristic | Preference share | Ordinary share |
|---|---|---|
| Dividend | Fixed and predetermined, paid first | Varies with results, paid after preference shares |
| Voting rights | Limited or no voting rights | Full voting rights at the general meeting |
| Upside | Limited, the price moves little | Unlimited, follows the growth in the company's value |
| On liquidation | Receives capital before ordinary shareholders | Receives what is left after preference shareholders |
| Risk | Lower risk than ordinary shares, higher than bonds | Higher risk but also higher potential return |
Drawbacks and risks of preference shares
Preference shares are not risk-free despite the fixed dividend. Here are the most important risks to be aware of:
Limited upside. You do not fully share in the growth of the company's value. If the company does very well, it is the ordinary shareholders who take the big gains.
Interest rate sensitivity. When interest rates rise, the fixed dividend becomes less attractive. Preference share prices tend to fall when rates go up, much like bonds.
Redemption risk. The company can choose to redeem the share when it suits it. If you buy above the redemption price, you risk making a capital loss.
No voting rights. You cannot influence the company's decisions at the general meeting and are more dependent on management's decisions.
Cancelled dividend. If the company does badly, the dividend can be cancelled. Preference shares protect against this compared with ordinary shares, but give no absolute protection.
Preference shares in the unlisted market
In the unlisted market, preference shares are often used in early funding rounds. A venture capital investor coming into a growth company may demand preference shares as protection. They want to secure their dividend and get priority in any exit or liquidation, compared with the founders, who usually own ordinary shares.
Unlisted preference shares can look different from the listed variants you usually read about. The terms vary more, and a careful reading of the articles of association and shareholders' agreement is needed before investing. On Eqvor you can access company information for the companies available on the platform.
Frequently asked questions about preference shares
What is a preference share?
A preference share is a type of share that gives the holder priority to dividends and capital over ordinary shareholders. The dividend is often fixed and predetermined and paid quarterly. Unlike ordinary shareholders, preference shareholders usually have no or limited voting rights at the general meeting.
How do dividends on preference shares work?
The dividend is predetermined at a fixed amount per share and is usually paid quarterly. It is paid out before the ordinary share dividend. If the company cannot pay the dividend in a quarter, the debt accumulates and must be paid first the next time the company pays a dividend, before the ordinary shareholders can receive anything.
What does redemption of preference shares mean?
Redemption means that the company buys back the preference shares from the holders at a redemption price set in advance. The terms are set out in the articles of association. If you buy the share at a price above the redemption price, you risk making a capital loss at the time of redemption.
What are the drawbacks of preference shares?
The most important drawbacks are limited upside compared with ordinary shares, interest rate sensitivity because the price falls when rates rise, the lack of voting rights and the risk that the company redeems the share at a time that does not suit you. Preference shares are not risk-free despite the fixed dividend.
Can you buy preference shares in unlisted companies?
Yes. In the unlisted market, preference shares mainly occur in connection with venture capital rounds, where investors seek protection through a preference structure. The terms vary more than on the stock exchange, and a careful review of the articles of association and shareholders' agreement is needed. On Eqvor you can trade unlisted shares and access company information before investing.
