non-cumulative_preferred_stock [CapiPedia]

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======Non-Cumulative Preferred Stock======
Non-Cumulative Preferred Stock is a type of [[preferred stock]] that comes with a significant catch. Like all preferred stock, it pays a fixed [[dividend]] and holds a higher claim on a company's assets and earnings than [[common stock]]. However, the "non-cumulative" part is the crucial detail. If a company faces financial trouble and decides to skip a dividend payment to its non-cumulative preferred shareholders, that dividend is gone for good. Poof! Vanished into thin air. Unlike its safer cousin, [[cumulative preferred stock]], the company has no obligation to make up for these missed payments in the future. This feature makes it a riskier investment, as the promised income stream isn't guaranteed. Investors are essentially betting that the company will remain healthy enough to consistently make its dividend payments without interruption.
===== A Tale of Two Dividends =====
To understand the difference, let's imagine a company, "Sturdy Tables Inc.," hits a rough patch and decides to suspend all dividend payments for a year to save cash.
  * **For Cumulative Preferred Stockholders:** They get nothing //this year//. However, the missed dividend is not lost; it's recorded as a "dividend in arrears." Sturdy Tables is now on the hook for that payment. Before the company can ever resume paying dividends to its common stockholders, it must first pay all its current //and// all its missed dividends to these cumulative preferred shareholders. Their patience is eventually rewarded.
  * **For Non-Cumulative Preferred Stockholders:** They also get nothing this year, and that's the end of the story. The dividend they were supposed to receive is lost forever. They have no claim to it in the future. When Sturdy Tables recovers and starts paying dividends again, these shareholders will only receive the dividend for the //current// period. The missed payment from the tough year is never paid back.
===== The Investor's Perspective =====
==== The Risk vs. Reward Trade-Off ====
Like many things in investing, choosing non-cumulative preferred stock involves a classic trade-off.
  * **The Big Risk: Lost Income**
  The primary danger is the permanent loss of income. A company doesn't have to be on the brink of bankruptcy to skip a preferred dividend; a bad quarter or a strategic decision to reinvest cash is enough. This makes the income stream from non-cumulative shares much less reliable than from [[bonds]] or cumulative preferreds.
  * **The Sweetener (The Reward): Higher Yield**
  So, why would anyone accept this risk? The answer is simple: a higher payout. To attract investors to this less secure option, companies must offer a higher [[dividend yield]] on their non-cumulative shares compared to their cumulative ones. An investor is paid a premium for accepting the risk that their dividends might disappear if the company stumbles.
==== A View from the Value Investor's Armchair ====
[[Value investing]] is built on the bedrock principle of [[margin of safety]]—a buffer against errors in judgment or just plain bad luck. From this perspective, non-cumulative preferred stock can look a bit wobbly.
An investor following the value philosophy must ask two critical questions before buying:
  - Is the underlying company so financially robust and its business so durable that the chance of it ever skipping a dividend is almost zero?
  - Is the extra yield offered high enough to genuinely compensate me for the risk of permanently losing my dividend payments?
While famous investors like [[Warren Buffett]] have made lucrative deals involving preferred stock, they almost always negotiate very favorable terms, ensuring the dividends are cumulative. For the average investor, non-cumulative preferred stock should be approached with extreme caution. It's often issued by banks and other financial institutions, which can be subject to regulatory pressure to halt payments during economic downturns.
Unless you are being compensated with a truly exceptional yield from a fortress-like company, the greater security of cumulative preferreds or high-quality bonds often makes for a more prudent choice. Remember, even in [[liquidation]], any missed dividends from non-cumulative shares are not part of the claim. You get your original investment back (after bondholders), but the lost income is gone forever.