American Capital Agency Corp.'s Plan for Growth

Just one week after earnings, American Capital Agency (AGNC 0.99%) is ready to grow.

This time, though, American Capital will tap a preferred stock offering to raise new funding from shareholders.

It's not surprising American Capital Agency would have a preference for preferred stock. The common stock continues to trade at less than net asset value, effectively prohibiting the company from raising new common equity financing.

What's the deal?
A preliminary prospectus filed with the SEC explains the new class of Series B preferred shares. The company will offer for sale new preferred shares at a par value of $25,000. However, following the offering, shares will be available on the NASDAQ within 30 days, in fractional depositary shares, at $25 per share, representing 1/1,000th of a full preferred share. The shares will be redeemable after May 2019, but are perpetual.

The depositary system is noteworthy because of the company's current limits on preferred stock issuance. The company has 6.9 million existing preferred shares out of 10 million authorized. Using a depositary system, it can offer a smaller number of shares at a higher price per share, raising more money without running over its current limit of 10 million preferred shares of stock.

This isn't American Capital Agency's first rodeo. The company issued $173 million of preferred shares with its listing of American Capital Agency preferred shares in 2012.

Snap up the preferreds?
I've long believed mREIT preferred stock is a much better alternative to the common stock. Not only are preferred stock dividends safer -- preferred dividends must be paid before dividends on the common stock -- the preferred dividends are more consistent by nature.

Since 2012, American Capital Agency's common stock dividends have plunged from $1.25 per quarter to $0.65 today. In that same timeline, the existing preferred shares have continued to reward shareholders with a consistent, $0.50 quarterly dividend, representing a yield of 8% per year at par.

Investors who want high yields with greater principal protection should favor the preferred stock. Let's not forget that 8% is a beastly yield, even if it doesn't stand up to the current yield of 11.4% for the common stock. Keep in mind, however, that mREIT preferred shares are taxed as income, not dividends. The difference is important -- income tax rates tend to be higher than long-term capital gains rates.

Of course, it's worth mentioning that a new preferred stock sale changes the risk-reward balance of the existing preferred shares. We'll have to wait to see how many shares American Capital Agency can sell, and the yield it offers on a new class of preferred shares. Given the premium on its A-series preferreds, the new Series B issue will likely have a lower par yield than the Series A shares and will potentially be a much larger issue than the first Series A listing.