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CFA Level I Exam · Equity Issuance and Trading

Types of Equity Securities: Common, Preferred and Depositary Receipts

Updated 7 October 2026 · Fact-checked

Equity securities represent ownership claims on a company. Common shares carry voting rights and residual claims. Preferred shares pay fixed dividends and rank ahead of common in dividends and liquidation, with features like cumulative, participating, convertible. Depositary receipts let investors hold foreign shares through a local listing. To solve questions, match the feature to the claim.

Understand Types of Equity Securities

An equity security is a claim on a company's assets and earnings after creditors are paid. Owners are residual claimants. They get what is left, so their return has higher upside and higher risk than debt.

Common shares are the main form of equity. Holders usually vote on directors and major corporate matters. They receive dividends only if the board declares them. In liquidation they rank last, after creditors and preferred shareholders. Some firms issue several classes of common shares with different voting rights or dividend rights. Common shares may be callable (issuer can buy back at a set price) or putable (holder can sell back to the issuer at a set price). A callable feature helps the issuer, a putable feature helps the investor.

Preferred shares sit between debt and common equity. They normally pay a fixed dividend and rank ahead of common shares for dividends and in liquidation. They usually have no voting rights, or limited rights. Key features: cumulative (unpaid dividends build up and must be paid before common dividends), non-cumulative (missed dividends are lost), participating (holders can get extra dividends above the stated rate if certain earnings levels are met, and may share in liquidation proceeds beyond face value), non-participating (limited to the stated dividend and face value), and convertible (can be exchanged for common shares at a set ratio). Preferred shares can also be callable or putable. Because the dividend is fixed, preferred shares are often valued like perpetuities, so their price moves with interest rates.

Depositary receipts (DRs) are securities issued by a depositary bank that represent ownership of shares of a foreign company. The foreign shares are held in custody and the DR trades locally in the local currency. An ADR trades in the US in USD. A GDR is issued outside the US and outside the issuer's home country, and may trade in several markets. The holder gets dividends, converted into the DR currency, but the DR price carries currency risk.

DRs can be sponsored or unsponsored. In a sponsored DR the foreign company is part of the agreement with the depositary bank, so the holder gets shareholder rights such as voting, and the company usually provides more disclosure. In an unsponsored DR the depositary bank issues the receipt without the company's involvement, and holder rights, such as voting, are typically limited.

Key formulas to remember

Value of non-convertible, non-callable preferred share
V = D ÷ r
Treats the fixed dividend D as a perpetuity. r is the required return. Use annual D with annual r.
Conversion value of convertible preferred
Conversion value = conversion ratio × market price of common share
If conversion value exceeds the preferred's own value, conversion is attractive to the holder.
Claim priority in liquidation
Creditors > preferred shares > common shares
Common shareholders are residual claimants and rank last.
Cumulative preferred dividend owed
Owed = dividend rate × par × years missed (plus current dividend)
Applies only to cumulative preferred. Non-cumulative missed dividends are not owed.

How to solve Types of Equity Securities questions

Most questions give a feature or scenario and ask which security, right or outcome applies. Use this method.

  1. 1Identify the security: common, preferred or depositary receipt.
  2. 2List the features given: cumulative, participating, convertible, callable, putable, voting, sponsored.
  3. 3Decide who benefits from each feature. Callable favours the issuer. Putable and convertible favour the holder.
  4. 4For dividend or liquidation questions, apply the priority order: creditors, preferred, common.
  5. 5For a valuation question, check if the preferred is a simple perpetuity (V = D ÷ r) or has conversion value to compare.
  6. 6For DR questions, separate where it trades, what currency it trades in, and whether it is sponsored.
  7. 7Eliminate the two options that contradict a feature stated in the stem, then pick the remaining answer.

Quickest way: Feature-to-beneficiary check

When to use it: Use for conceptual items asking which security or feature fits a description, when you have about 90 seconds.

  1. Underline the key word: cumulative, participating, convertible, callable, putable, sponsored.
  2. Link each word to one sentence: cumulative means missed dividends accrue; participating means extra upside; convertible means into common; sponsored means issuer is involved.
  3. Ask who gains. Remove options that say the wrong party benefits.
  4. If calculation is needed, use D ÷ r or ratio × price, then compare to the options listed smallest to largest.

Common mistakes in Types of Equity Securities

  • Saying preferred shareholders normally have full voting rights.

    Students treat preferred as a type of common share.

    Fix: Remember that preferred usually has no voting rights or limited ones, in exchange for priority in dividends and liquidation.

  • Mixing up cumulative and participating.

    Both sound like extra benefits to the holder.

    Fix: Cumulative protects against missed dividends. Participating gives extra dividends or liquidation proceeds beyond the stated amount.

  • Thinking a callable feature benefits the investor.

    The word call is linked to call options, which favour the buyer.

    Fix: A callable share gives the issuer the right to buy back. A putable share gives the investor the right to sell back.

  • Believing unsponsored DRs give full shareholder rights.

    Students assume any DR passes through voting rights.

    Fix: Sponsored DRs involve the issuer and usually give holder rights. Unsponsored DRs are created by the bank alone and typically give limited rights.

  • Valuing preferred shares with a growing perpetuity.

    Students carry over the Gordon growth model from common shares.

    Fix: A fixed-dividend, non-convertible preferred is valued as V = D ÷ r with no growth term.

  • Ignoring currency risk in depositary receipts.

    The DR trades in the local currency, so it looks like a domestic stock.

    Fix: The DR price reflects the foreign share price and the exchange rate, so investors bear currency risk.

Worked examples

Example 1

A non-convertible, non-callable preferred share has par value $100 and pays a fixed 5% annual dividend. The required return is 8%. What is its value? A) $50.00 B) $62.50 C) $80.00

Show the solution
  1. Annual dividend D = 5% × $100 = $5.00.
  2. Value V = D ÷ r = 5.00 ÷ 0.08.
  3. V = $62.50.

Answer: B) $62.50

Example 2

A company has cumulative preferred shares with par $50 and a 6% dividend rate. It paid no preferred dividend last year and wants to pay a common dividend this year. What must it pay on each preferred share first? A) $3 B) $6 C) $9

Show the solution
  1. Annual dividend = 6% × $50 = $3.
  2. Last year's dividend is unpaid and accumulates because the preferred is cumulative.
  3. Arrears = $3, plus this year's current dividend = $3.
  4. Total before any common dividend = $3 + $3 = $6.

Answer: B) $6

Exam tips

  • Match the feature to the beneficiary: callable favours the issuer, putable and convertible favour the holder.
  • Remember that questions on DRs usually test sponsored versus unsponsored and currency risk, not detailed listing rules.
  • For preferred valuation, check for conversion or call features before using V = D ÷ r.
  • Priority of claims is a favourite elimination tool: common is always last.

Practice questions from Equity Issuance and Trading

Types of Equity Securities in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Types of Equity Securities: frequently asked questions

What is the main difference between common and preferred shares?

Common shares carry voting rights and variable dividends, and rank last in liquidation. Preferred shares usually pay a fixed dividend, rank ahead of common, and typically have no voting rights. Preferred behaves partly like debt.

What is the difference between cumulative and participating preferred shares?

Cumulative preferred accumulates missed dividends, which must be paid before common dividends. Participating preferred can receive extra dividends above the stated rate, or extra liquidation proceeds, under stated conditions. They protect different things.

What is the difference between an ADR and a GDR?

An ADR is a depositary receipt traded in the US in USD. A GDR is issued outside the US and outside the issuer's home country, and may trade in several markets. Both represent foreign shares held by a depositary bank.

What are sponsored and unsponsored depositary receipts?

A sponsored DR is set up with the foreign company's participation, so holders usually get shareholder rights and better disclosure. An unsponsored DR is issued by a bank without the company's involvement, and holder rights are typically limited.