Definition: A nonparticipating preferred stock is a preferred share in a corporation with a feature that limits the dividends that can be issued per year. This maximum limit is usually written or stated on the face of the stock certificate as a percentage of the par value. It can also be stated in real dollars.
What Does Non-Participating Preferred Stock Mean?
The reason why non-participating preferred stockholders have maximum dividend limit each year is because preferred shareholders receive their dividends before any common shareholders. This secures that if the corporation declares dividends, the preferred shareholders will get paid no matter what. After the preferred dividends are paid off, the common stock shareholders will get whatever is left.
A non-participating preferred share has a cap on the amount it can be issued each year to protect the common stock shareholders. Otherwise, the preferred shares could receive the entire dividend issued every single year. That wouldn’t be fair for the rest of the owners.
Participating preferred shares, on the other hand, get paid their standard dividend first and then get to participate in a percentage of dividends that the common shareholders receive.
Let’s look at an example.
Assume there are 100 non-participating preferred and 1,000 common shares outstanding at the end of the year with a max stated dividend of $10. In the third quarter, the board of directors declares a $2,000 dividend. First the preferred shareholders would receive $1,000 in dividends. The 1,000 common stockholders would receive the other $1,000. This one of the main advantages of being preferred shareholder. You get the money upfront if dividends are issued.
Now let’s assume the preferred shares are participating. Now the preferred shareholders would receive their guaranteed $1,000 up front and they would also receive a percentage of the $1,000 given the common stockholders.