Definition of Cumulative Preferred Stock
Cumulative preferred stock is a type of preferred stock for which any omitted dividends must be paid before the corporation is allowed to pay a dividend on its shares of common stock.
Typically, the corporation's board of directors will not declare a dividend they will be omitting. Therefore, the amount of these past omitted dividends that remain unpaid must be disclosed in the notes to the financial statements . The past omitted dividends on the cumulative preferred stock are referred to as dividends in arrears .
Examples of Cumulative Preferred Stock
Assume that a corporation has issued and outstanding 10,000 shares of 6% cumulative preferred stock with a par value of $100. This means that the corporation must declare and pay $60,000 ($6 per share X 10,000 shares) in dividends to its cumulative preferred stockholders before the corporation can pay any dividend to its common stockholders.
If the corporation declares and pays only $25,000 in dividends to the cumulative preferred stockholders, the corporation will have $35,000 ($60,000 minus $25,000) of dividends in arrears that must be disclosed in the notes to the financial statements.