What is Preferred Stock?
Preferred stock is a class of ownership with special rights not available to common stockholders. Venture investors receive preferred stock with liquidation preferences, anti-dilution protection, and often board representation.
The "preferred" in preferred stock refers to payment priority: preferred shareholders get paid before common shareholders in a sale or liquidation.
Key Preferred Stock Rights
Liquidation preference: Get investment back first (1x), or more (2x). Anti-dilution: Protection if future rounds are at lower valuations. Voting rights: Often includes board seats and veto power on major decisions. Conversion rights: Can convert to common at any time.
Why Investors Want Preferred
Preferred stock provides downside protection. If the company sells for less than expected, preferred shareholders recover some or all of their investment before common shareholders get anything. This reduces investor risk.
Formula
Preferred Stock Value = Shares × Original Issue Price
Liquidation Value = Shares × Price × Preference Multiple
Example
Series A preferred terms:
- Investment: $3M for 2M shares
- Price per share: $1.50
- Liquidation preference: 1x non-participating
- Anti-dilution: Broad-based weighted average
- Board seat: 1 of 5
These shares have rights that common stock doesn't have.