Emmis Communications Corp.'s effort to strip its preferred shareholders of their rights and avoid forking over about $10 million in unpaid dividends is drawing sharp criticism from top market observers, including a columnist for The New York Times.

The struggling Indianapolis media company hopes to recapitalize in part by neutralizing its preferred shareholders without paying four years' worth of unpaid 6.25-percent annual dividends. Emmis would reimburse some shareholders with the equivalent of just $2 toward the $50 face value of their preferred stock.

Emmis has repurchased 61 percent of its preferred shares for about $15 apiece but has left voting rights with the previous holders, who agreed to vote on Emmis’ behalf to extinguish the rights of preferred shareholders. Companies generally cannot vote their own retired shares.

But the company is still short of the two-thirds vote required to get rid of the preferred shares, so it plans to issue 400,000 new preferred shares to an employee benefit trust—shares management would have the authority to vote.

CEO Jeff Smulyan, who controls the common shares via a special class, voted to approve the creation of the employee benefit trust Monday. No date has been set for a second vote that would eliminate the preferred shares, including the right of holders to appoint directors.

If that vote is successful for Emmis management, remaining holders of $50 preferred shares could convert them into 2.44 common shares apiece. At current prices, that works out to about $2.

Emmis is asking a Marion Superior Court judge to declare the plan legal in a preemptive bid to prevent preferred shareholders unhappy with the plan from challenging its validity in court. Judge Cynthia Ayers has yet to rule on the request.

The company’s actions look like a “desperate” maneuver—not “on the up and up”—to save a sinking business facing new competitors and a big drop in revenue, said Mark D. Foster, chief investment officer of Kirr Marbach & Co. in Columbus, Ind.

“I’m not sure I’ve ever seen that approach before,” Foster said. “They’re at the point of trying whatever they can to save the business. If you want to survive, you have to be creative. This is what they came up with.”

The company is in a tough spot, and canceling the preferred shares could save it and prove a boon to common shareholders, Foster said. But it’s the kind of move a company can only do once.

Foster compared the approach to that of the Obama administration when it forced bondholders in Chrysler to take a hit in the company's bankruptcy.

Columnist Floyd Norris of The New York Times wrote that if Emmis gets away with its gambit, Indianapolis will become the “Chicago of capitalism.”

“Emmis and its controlling shareholder have hatched an ingenious plan to make the company’s preferred shares all but worthless and strip them of their rights,” Norris wrote. “To do that requires getting two-thirds of the preferred shares to agree, which would normally be impossible. But not if Emmis can persuade a state judge in Indiana to bless its strategy to allow dead shares to be voted.”

Companies that buy back and retire their shares cannot turn around and vote the shares.

Emmis issued a rebuke to the Norris column, saying it didn’t fully represent Emmis’ stance on the preferred shares.

“We offered a transparent process to all our preferred shareholders, including the few remaining holdouts,” the company said in a statement. “Holders of the vast majority of preferred shares saw the offer as fair and reasonable, and accepted it.”

In an interview Monday, Smulyan said the remaining preferred shareholders are being greedy, trying to recover much more than they paid for their shares.

"They said these shares had a $50 value," Smulyan said. "They did. But these people didn't buy them at that price. Most people bought this at a nominal amount of money and now they're trying to block the company."

Norris’ column in the Times is charitable compared with that of James Grant, editor of Grant’s Interest Rate Observer, who described Emmis’ efforts to wipe out preferred holders as a “fatwa” in a column published March 23.

Grant took particular issue with the company’s plan to use so-called swap agreements to vote the shares it has repurchased and issue 400,000 new shares to an employee retirement trust—all so Emmis can put together a two-thirds majority to vote to “extinguish” the remaining one-third of its preferred shares.

“At stake is more than the future of a dwindling, idiosyncratically governed Indianapolis media company,” Grant wrote. “Victory by Emmis over the preferred would tend to impair the standing of preferred stock as a national asset class and compromise the position of minority investors. More importantly, the insiders’ success would shake the presumption that contract law applies even when, from the point of view of the insiders, it would be more convenient if it didn’t.”

Emmis said four institutional holders and one individual investor who own its preferred shares are holding out on the plan.

The move is the latest step in Emmis’ quest to free itself from the burdensome requirements of the preferred stock. The shares are supposed to pay 6.25 percent, but the financially strapped company has been exercising its right to suspend payments since October 2008.

From then through early December 2011, $26.7 million in unpaid dividends piled up as liabilities on Emmis’ balance sheet.

Investors also are scheduled to consider authorizing a reverse stock split that would push the price of the company’s shares above $1 each.

NASDAQ has been threatening to delist the shares because they have closed below the $1 threshold since July. Company shares were fetching 83 cents each in late-morning trading.

Emmis owns 17 FM and two AM radio stations nationwide, and seven city and specialty magazines. Locally, it operates WFNI-AM 1070, WIBC-FM 93.1, WLHK-FM 97.1 and WYXB-FM 105.7, as well as Indianapolis Monthly magazine.

Editor's note: This story has been updated with a clarification that Emmis is not trying to literally cancel its preferred shares, but to remove special rights of preferred shareholders, and to reflect a smaller total of unpaid dividends since Emmis does not owe dividends on the 61 percent of the preferred shares it has repurchased.