Cumulative Preference Dividends.
Cumulative Preference Dividends
1. Meaning of Cumulative Preference Shares
Preference shares are a class of shares that carry preferential rights over equity shares in:
Payment of dividends, and
Return of capital on winding up.
When such preference shares are cumulative, it means:
If the company fails to pay dividends in any year due to insufficient profits, the unpaid dividend accumulates (goes into arrears) and must be paid in future years before any dividend is paid to equity shareholders.
2. Legal Basis (India – Companies Act, 2013)
Relevant provisions include:
Section 43 – Kinds of share capital
Section 47 – Voting rights
Section 55 – Issue and redemption of preference shares
Unless otherwise stated in the Articles of Association or terms of issue, preference shares are generally treated as cumulative.
3. Key Features of Cumulative Preference Dividends
Accumulation of arrears
If dividend is not declared in one year, it carries forward.
Priority over equity shareholders
Arrears must be cleared before equity dividends are paid.
Not automatically payable
Dividend must still be declared by the company out of profits.
Voting rights in case of arrears
Under Section 47(2), if dividend is unpaid for two years or more, preference shareholders gain voting rights on all resolutions.
Arrears not a debt until declared
Unpaid dividend does not automatically become a debt unless declared.
4. Distinction Between Cumulative and Non-Cumulative Preference Shares
| Basis | Cumulative | Non-Cumulative |
|---|---|---|
| Unpaid Dividend | Carried forward | Lost if not declared |
| Priority | Must clear arrears first | No arrears |
| Risk | Lower risk | Higher risk |
| Investor Appeal | More secure | Less secure |
5. Important Legal Principles
(a) Dividend is Not a Debt Until Declared
Even if cumulative, dividend becomes payable only when declared by the company in general meeting.
(b) Arrears Must Be Cleared Before Equity Dividend
Equity shareholders cannot receive dividends until arrears are paid.
(c) Right Exists Even Without Current Profits
If profits arise in later years, arrears must first be satisfied.
(d) On Winding Up
Arrears are payable depending on the terms of issue and judicial interpretation.
6. Important Case Laws on Cumulative Preference Dividends
1. Bond v. Barrow Haematite Steel Co. (1902) 1 Ch 353
Principle: Preference shareholders are entitled only to what is expressly stated in the terms of issue.
Significance: Rights must be clearly mentioned; courts do not assume additional rights.
2. Re Spanish Prospecting Co. Ltd. (1911) 1 Ch 92
Principle: Dividend can only be paid out of profits.
Significance: Even cumulative preference shareholders cannot claim dividend unless profits exist.
3. Burland v. Earle (1902) AC 83
Principle: Courts will not interfere in internal management unless rights are violated.
Significance: Preference shareholders must rely on contractual rights.
4. Re Northern Aluminium Co. Ltd. (1914) 1 Ch 261
Principle: Arrears of cumulative dividends must be cleared before equity dividends.
Significance: Confirms priority principle.
5. Wood v. Odessa Waterworks Co. (1889) 42 Ch D 636
Principle: Dividend must be paid in the manner provided in the Articles.
Significance: Payment cannot be substituted with other benefits.
6. Re New Chinese Antimony Co. Ltd. (1918) 2 Ch 187
Principle: On winding up, arrears of cumulative preference dividend are payable if provided in terms.
Significance: Clarified rights during liquidation.
7. Position on Winding Up
During liquidation:
Preference shareholders have priority over equity shareholders.
Whether arrears are payable depends on:
Terms of issue
Articles of Association
Judicial interpretation
If expressly provided, arrears are payable before distribution to equity shareholders.
8. Practical Illustration
Suppose:
Company issues 10% cumulative preference shares.
No dividend paid for 3 years.
In 4th year, profits arise.
Before paying equity dividend:
Company must pay 3 years’ arrears + current year’s preference dividend.
9. Summary Table
| Aspect | Details |
|---|---|
| Nature | Preference dividend that accumulates if unpaid |
| Legal Basis | Sections 43, 47, 55 – Companies Act 2013 |
| Payment Condition | Only out of profits |
| Arrears | Carried forward |
| Voting Rights | Arise after 2 years’ unpaid dividend |
| Key Cases | Bond v. Barrow, Re Spanish Prospecting, Burland v. Earle, Re Northern Aluminium, Wood v. Odessa, Re New Chinese Antimony |
10. Conclusion
Cumulative preference dividends provide greater financial security to investors by ensuring that unpaid dividends accumulate and must be paid before equity shareholders receive dividends. However:
Dividend must still be declared.
It is not automatically a debt.
Rights depend heavily on terms of issue.
Courts strictly interpret the contractual rights of preference shareholders.
The case laws consistently affirm that cumulative preference shareholders enjoy priority but only within the framework of statutory provisions and contractual terms.
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