Preferred stock valuation uses a constant dividend while common stock valuation uses either a constant dividend growth or a variable dividend growth. Why is this statement true?
A) Preferred stock receives just as much dividends as common stock.
B) Since not many companies use preferred stock, they just made the calculations easier.
C) Preferred stock receives dividends based on a set amount where common stock can receive dividends either equal to preferred stock or based on earnings.
D) Common stock dividends usually grow faster than preferred stock dividends.

Question

Quizplus · Accepted Answer

Preferred stock typically receives a fixed dividend that does not change, while common stock can receive either a constant dividend growth (if the company has a consistent dividend policy) or a variable dividend growth (if the company changes its dividend policy based on its earnings and other factors). This is why preferred stock valuation uses a constant dividend, while common stock valuation can use either a constant or variable dividend growth. Option A is incorrect because preferred stock and common stock can have different rates of dividend payments. Option B is incorrect, as the use of preferred stock is fairly common in certain industries, particularly in the financial sector. Option D is also incorrect as the growth rate of dividends for common and preferred stock may vary based on the company's financial performance and policies.

Preferred Stock Valuation Uses a Constant Dividend While Common Stock