Security Analysis by Benjamin Graham and David Dodd was first published in 1934. It is a fundamental book for serious students of value investing.
This chapter deals with protective provisions for preferred stock stockholders. Mr. Graham and Mr. Dodd delve into existing practices to protect preferred stockholders through various examples. Subsequently, they suggest standards.The authors suggest the presence of sinking funds makes the preferred issue more secure as in the case of bonds. In the case of preferred, sinking fund is required more given their weak legal position.
Furthermore, the authors suggest preferred stockholders should have voting control in the situation of nonpayment of dividends, inadequate working capital, or depleted sinking fund. The presence of such voting power and its effective execution can offset the weak legal position of preferred stock to a large extent.
Lastly, adequate junior capital is important. While not common, in the case of common stockholders pulling the capital during business loss conditions, that could put preferred and bondholders in a precarious position.
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