Is Preferred Stock Worth Considering?

Is Preferred Stock Worth Considering?

Phil Kenkel

Bill Fitzwater Cooperative Chair

The cooperative business model is a very flexible financial structure. Historically, most cooperative have not considered all of their financial options. One seldom used alternative is issuing preferred stock. Preferred stock gets its name because, in the event of liquidation, the preferred stockholders claim is prior to the common stockholders. In a cooperative, preferred stock generally does not have a voting privilege and it can be sold to either members or non-members. Preferred stock is generally structured to pay a fixed dividend, which may or may not be cumulative. Preferred stock is considered equity, and not debt, because the board has the discretion to suspend the dividend in a given year. However the common stockers (the user members) cannot receive dividends on stock or patronage refunds on use if the preferred dividend is not paid. If the dividend is cumulative, the firm much catch up on past preferred dividends. In order to qualify for the Capper Volstead Act a cooperative must either have a one-member one vote system or limit dividends to 8%. Oklahoma cooperative law includes both of those provisions, limiting dividends to 8% on all cooperatives.

Preferred stock can be used in a number of ways. Some cooperative have transferred inactive members to preferred stock while not paying a dividend or changing the revolving cycle. This pulls inactive members out of the voting pool and keeps control in the hands of active members. That can make a key difference in a unification vote or other major issue. Some cooperatives have experimented with redeeming patronage stock by issuing a dividend yielding preferred stock. This can provide a vehicle to keep more equity in the capital structure, at the cost of dividend payments. The cooperative also has to establish some procedure to cash in the preferred stock and that structure can raise some risks of unpredictable outflows. Finally a cooperative can issue preferred stock to non-members. Many of the regional cooperatives have used that structure to bring in capital. Issuing any form of stock raises issues relative to Security Exchange Commission regulations. SEC issues are a particular concern when stock is issued to outside investors.

In today’s interest environment an 8% return can be an attractive investment. Preferred stock, like other financial alternatives has pros and cons. Consider whether it has any place in your capital structure.

2-15-2012