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Detailed question: A start-up company has preferred shares in the capital structure which are irredeemable and convertible to ordinary shares. These shares have floating dividend return based on market rates. Also, these shares are mainly held by the sponsor shareholders. Summing up, it is implied and fair assumption that these shares will be converted to ordinary shares once the company has started to produce positive bottom-line of the profit and loss account. Now, in equity valuation of this company, what is the most appropriate treatment of these preference shares whilst computing WACC of the company? Should these shares be classified as preference shares in the capital structure with the current rate of return or should these shares be classified as ordinary shares and included in the equity?
Valuation is AS ON DATE. So, preference shares should not be treated parallel with equity shares.
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if the valuation is for the owner of that preferred share, you can ask him/her what is his plan and value accordingly. other ways: as of date
It should be treated as " Preference Shares".
I believe that they must be treated as preferred stocks and must be computed using the formula:
WACC = rd * DW (1-t) + re * EW + rp * PW
Where:
rd is cost of debt
re is cost of equity
rp is cost of preferred stocks
DW is debt weight in total capital
EW is equity weight in total capital
RP is preferred stocks weight in total capital.
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