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1. Why would the cost of common equity be greater than that of preferred equity of...

1. Why would the cost of common equity be greater than that of preferred equity of the same company?

2. Explain how a company can force conversion in a callable convertible preferred stock issue?

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Answer #1

1. Cost of equity is more than cost of preferred stock because in case of liquidation preferred stock holders are paid first and then residual amount is given to equity holders. Preferred stock holders have first right on dividends. Since the risk of equity holders is very high. Hence the cost of equity is higher.

2. By calling the issue when the price of shares reaches a predetermined price the company can force conversion. This helps to convert preferred stock issue to common equity holders. This can only be forced when the share price attains certain predetermined value.

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