Final answer:
Preferred shares can provide advantages to the issuer, such as not diluting control, flexibility in dividend payments, and having callable options. While they come with certain costs and regulatory requirements, they can be a strategic choice for accessing capital without the fixed repayment schedules of debt.
Step-by-step explanation:
When a firm decides how to access financial capital, it can opt for debt financing through bank loans or bonds, or equity financing through issuing stock. One notable disadvantage for an issuer when borrowing from banks or issuing bonds is the obligation to make scheduled interest payments, regardless of income levels. On the other hand, such methods allow the firm to retain full control over its operations, without the influence of shareholders.
Issuing preferred shares can offer an advantage to the issuer in the sense that, unlike common stock, it does not dilute control of the company as much, because these shareholders generally do not have voting rights. Preferred shares also provide the issuer with flexibility in terms of dividend payments—not a fixed obligation as with debt. However, issuing these shares often involves costs, such as investment banking and attorney fees, and adherence to regulatory requirements, like those of the Securities and Exchange Commission (SEC).
Preferred stock may also come with features that are beneficial to issuers, such as being callable, which allows the company to repurchase the stock at a set price after a certain date, usually to retire the shares when it is advantageous to the firm financially. In contrast, high-yield bonds may attract investors looking for better returns, but they also indicate a higher risk of default.