Liquidation Preference

An issuer's preferred stock has both a stated liquidation preference of a certain dollar amount per share and a separate mandatory redemption price per share, both specified in the certificate of designation. Must these two dollar amounts always be identical?

1. A.Yes, by definition the liquidation preference and the redemption price must always be the identical dollar figure.Wrong. There is no such definitional requirement; the two are separately negotiated.
2. B.No, and in fact the redemption price is always required by law to be lower than the liquidation preference.Wrong. There is no legal rule fixing a relationship between the two figures.
3. C.No -- the two figures are separately negotiated contractual terms triggered by different events, and need not match.Correct. Liquidation preference and redemption price are independent terms.
4. D.No, but only because the liquidation preference is stated in dollars while the redemption price is stated as a percentage of the offering price, making comparison impossible.Wrong. Both are typically stated in comparable per-share dollar terms; the point is they are separately negotiated, not expressed in incompatible units.

Why: No. The liquidation preference, paid first out of proceeds in a sale or liquidation event, and the mandatory redemption price, what the issuer must pay to redeem the shares on the stated redemption date, are two separate, independently negotiated contractual terms. While they are sometimes set at the same amount for simplicity, nothing requires them to match, and an investor should check both figures rather than assume one governs the other.

A private company's preferred stock carries a stated liquidation preference. Under what circumstance does that liquidation preference apply, and how does it differ from the preferred stock's priority for ordinary, ongoing distributions?

1. A.The liquidation preference and ordinary distribution priority are the same right, simply described differently in different sections of the governing documents.Wrong. These are related but distinct rights triggered by different circumstances.
2. B.The liquidation preference applies only if the company is dissolved through bankruptcy; a negotiated sale of the company to a third party does not trigger it.Wrong. Liquidation preferences are typically triggered by any change-of-control or exit event as defined in the governing documents, not only formal bankruptcy dissolution.
3. C.The liquidation preference guarantees the preferred holder a fixed periodic payment during the life of the investment, functioning like a bond coupon.Wrong. This conflates liquidation preference with a recurring cash flow feature; it is a claim triggered at an exit event.
4. D.The liquidation preference applies at a liquidation, sale, or similar exit event and is a separate feature from priority for ongoing, board-declared distributions.Correct. The two priority concepts are related but trigger under different circumstances.

Why: A liquidation preference applies specifically upon a liquidation, sale, or similar exit event, entitling the preferred holder to receive a stated amount before common holders receive any proceeds from that event. This is a separate feature from -- though related in concept to -- the preferred stock's general priority over common stock for ordinary, board-declared distributions made while the company continues operating.

What does it mean for private company preferred stock to be "participating" as opposed to "non-participating"?

1. A.Participating preferred pays a higher dividend rate than non-participating preferred; both receive the same treatment upon liquidation.Wrong. The distinction specifically concerns treatment of liquidation/exit proceeds, not dividend rate.
2. B.Non-participating preferred allows the holder to purchase additional shares in future financing rounds at the same price, while participating preferred does not.Wrong. This describes a different feature (preemptive rights), unrelated to the participating/non-participating distinction.
3. C.Participating preferred receives its liquidation preference and then also shares further in remaining proceeds; non-participating preferred receives the greater of the preference or its as-converted value, not both.Correct. This is the precise definitional difference.
4. D.Participating and non-participating preferred are identical except that participating preferred carries voting rights and non-participating does not.Wrong. Voting rights are a separate, independent feature not defined by this distinction.

Why: Participating preferred entitles the holder to receive its stated liquidation preference and then also share, alongside common holders, in any remaining proceeds on an as-converted basis. Non-participating preferred entitles the holder to receive either the liquidation preference or its as-converted common value, whichever is greater, but not both.