Chapter 1

Callable preferred stock is advantageous to the issuing company because it allows the company to A) call in the stock at less than par value and capture the difference as income. B) take advantage of higher interest rates. C) issue fixed-rate securities at a yield lower than usual. D) replace a higher, fixed-rate issue with a lower issue after the call date.

D) replace a higher, fixed-rate issue with a lower issue after the call date.

Common stockholders of a publicly traded corporation have which of the following rights and privileges? Residual claim to assets at dissolution Right to a vote for stock dividends to be paid Right to receive an audited financial report on an annual basis Claim against dividends in default

I and III

An individual owning shares of a corporation's common stock would have all of the following rights except A) to declare dividends. B) to review a list of stockholders. C) to vote when unable to be present at a shareholder meeting.

to declare dividends

LMN Corporation has a $60 par, 4% preferred stock currently trading at $45 per share. Its annual dividend is A) $1.80. B) $4.00. C) $24.00. D) $2.40. Explanation For preferred shares, the annual dividend is stated as a percentage of par. In this case, 4% of par value of $60 equals $2.40.

2.40 explanation: For preferred shares, the annual dividend is stated as a percentage of par. In this case, 4% of par value of $60 equals $2.40.

DEF Corporation has 4% noncumulative preferred stock outstanding. The company eliminated its dividend payments for the past three years but now is in a position to resume paying them again. Before paying common shareholders a dividend, the company would be required to pay the preferred shareholders A) nothing. B) $1.00. C) $4.00. D) $2.50.

4.00 With noncumulative preferred stock, missed or skipped dividends need not be paid or made up. However, in order to pay common shareholders in any year, preferred shareholders must receive their full dividend for that year. While it can be paid in one annual payment, quarterly, or however the board approves it to be paid, the total in this case would be $4.00. 4% × $100 par value = $4.00.

A customer has held an account with a broker-dealer for over one year. A registered representative associated with the firm recommends the purchase of an unlisted security trading at $3.50. What documentation, if any, is required prior to the trade? A) Both suitability and disclosure statements must be obtained. B) A disclosure statement is required, but not a suitability statement. C) A suitability statement is needed, but not a disclosure statement. D) No documentation is required.

A disclosure statement is required, but not a suitability statement.

Regarding preferred stock, all of the following are true except A) preferred shareholders are paid before common shareholders in the event of a corporate bankruptcy. B) the right to vote on corporate issues is not available for preferred shareholders. C) preferred shareholders have no preemptive rights that precede the preemptive rights of common shareholders. D) a corporation issuing common shares must issue at least one class of preferred shares.

A) preferred shareholders are paid before common shareholders in the event of a corporate bankruptcy. No corporation is required to issue any class of preferred stock. Preferred shareholders have no voting rights or preemptive rights but are paid before common shareholders in the event of a corporate dissolution.

Common dividends may be A) declared or suspended by the board of directors (BOD), with increases and reductions decided by the shareholders. B) declared, increased, reduced, or suspended by the board of directors (BOD). C) declared, increased, reduced, or suspended by the shareholders. D) declared or increased only by the board of directors (BOD).

B) declared, increased, reduced, or suspended by the board of directors (BOD).

A corporation that has issued cumulative preferred stock A) pays the preferred dividend before paying the interest payments due on its outstanding bonds. B) pays past and current preferred dividends before paying dividends on common stock. C) pays only current dividends with no liability for missed or past-due dividends. D) pays only the current dividends on the preferred, before paying a dividend on the common and then pays any past-due dividends.

B) pays past and current preferred dividends before paying dividends on common stock. explanation: Dividends in arrears (those missed) on cumulative preferred have the highest priority of dividends to be paid. Current and unpaid past dividends on cumulative preferred stock must be paid before common stockholders can receive a dividend. Bond interest, however, is always paid before any dividends, preferred or common.

A customer investing in common equity securities could realize all of the following except A) current income via dividend declarations. B) protection of principal investment. C) potential capital appreciation. D) potential hedge against inflation.

B) protection of principal investment Explanation While common shareholders could realize potential capital appreciation, current income via dividend declarations and a potential hedge against inflation, protection of the initial investment is not guaranteed. Common shareholders have limited liability, meaning that while they cannot lose more than was initially invested, they could still lose all of it.

An officer of a public company buys 1,000 shares of the company's registered stock in the open market. Regarding the sale of these shares, the officer may sell A) immediately, with no volume restrictions. B) under Rule 144 only after a six-month holding period. C) only after leaving (becoming unaffiliated with) the company. D) immediately, subject to Rule 144 volume limitations.

Because the shares were purchased in the open market (already registered), the transaction is not a private placement and there is no required holding period. The officer, however, is an affiliate and is therefore subject to the reporting and volume limitations imposed when selling under Rule 144.

For restricted stock (unregistered) held by a nonaffiliated, which of the following applies? A) No holding period, but volume limits always apply B) No holding period or any volume restrictions C) Six-month holding period, with sales allowed freely thereafter D) Six-month holding period, with volume limits thereafter

C) Six-month holding period, with sales allowed freely thereafter explanation: For restricted stock (unregistered) held by a nonaffiliated, a six-month holding period before any sales can be made applies. After the holding period, sales can be made freely.

When the board of directors (BOD) declares a dividend, A) owners of preferred shares are paid only after any payment is made to common shareholders. B) owners of preferred shares must be paid at least the same amount as any payment made to common shareholders. C) owners of preferred shares must be paid before any payment is made to common shareholders. D) owners of common shares must be paid at least the same amount as any payment made to preferred shareholders.

C) owners of preferred shares must be paid before any payment is made to common shareholders.

For restricted stock (unregistered) held by an affiliate (insider), which of the following applies? A) No holding period or any volume restrictions B) Six-month holding period, with sales allowed freely thereafter C) No holding period, but volume limits always apply D) Six-month holding period, with volume limits thereafter

D) Six-month holding period, with volume limits thereafter Explanation For restricted stock (unregistered) held by an affiliate (insider), there is a six-month holding period, with volume limits applicable thereafter. The volume limits would remain in effect for as long as the individual is an affiliate.

Common shareholders have the right to A) no access to a company's books and records. B) access a company's books and records with Securities and Exchange Commission (SEC) permission. C) full access to a company's books and records. D) limited access to a company's books and records.

D) limited access to a company's books and records. Explanation By virtue of owning the company's common stock, shareholders have a limited right to review the company's books and records. For example, they have the right to examine the minutes of meetings of the board of directors (BOD).

A common stock shareholder's residual right to corporate assets refers to which of the following?

During the dissolution of corporate assets, common shareholders will be paid if there are any funds left after debtholders and preferred shareholders are paid.

An investor needs to decide whether or not they would like to maintain their percentage of ownership in a company that has decided to increase the number of outstanding shares. Which of the following is the best description of what is taking place? A) Warrants will be distributed to existing stockholders with an exercise price equal to the current market value. B) Warrants will be distributed to existing stockholders and they will have two to five years to decide whether or not to buy the stock at the strike price. C) Rights will be distributed to existing stockholders with an exercise price lower than the current market value. D) Rights will be distributed to existing stockholders; they have only two options: exercise the rights or let them expire.

Rights will be distributed to existing stockholders with an exercise price lower than the current market value. Explanation Preemptive rights entitle existing common stockholders to maintain their proportionate ownership shares in a company by buying newly issued shares before the company offers them to the general public. They are offered with an exercise price lower than the current market value and are issued (typically) for a period of four to six weeks (30-45 days). Existing shareholders who receive rights have three options: they may be exercised, sold in the secondary market, or allowed to expire at the end of their subscription.

Which of the following sell transactions is not subject to the holding period restriction specified in SEC Rule 144? A) Unregistered stock acquired by a nonaffiliate under an investment letter B) Stock acquired on the NYSE by a corporate affiliate C) Stock acquired by a corporate affiliate in a private placement D) Unregistered stock acquired by a corporate affiliate in a stock option program

Stock acquired on the NYSE by a corporate affiliate explanation: The holding period rule applies only to unregistered stock, which may or may not be control stock. Unregistered stock results from either private placements or the exercise of a corporate stock option. Because this question asked which securities were not subject to the Rule 144 holding period, only stock acquired on the NYSE by a corporate affiliate is the correct answer. However, the affiliated person is subject to volume restrictions.

A penny stock is best described as A) an unlisted stock valued at less than $1 per share. B) an unlisted stock valued at less than $5 per share. C) an exchange-listed stock valued at less than $5 per share. D) an unlisted stock valued at less than $2 per share. Explanation A penny stock is an unlisted (not listed on a U.S. stock exchange) security offered at less than $5 per share.

an unlisted stock valued at less than $5 per share.

A certificate issued by a company granting its owner the right to purchase securities from the issuer at some specified price years into the future would best be described as A) a call option. B) a warrant. C) a rights certificate. D) a proxy.

a warrent explanation: A rights certificate is a very short-term security that grants the holder the right to buy the common stock of the company at a price lower than the current market price. A warrant is a long-term security that grants its owner the right to purchase securities from the issuer at a specified price that is higher than the current market price at the time the warrants are issued and at some point, in the future. Note that while the exercise price is higher than the current market value when the warrants are issued, it is hoped that the exercise price will be below current market value when the warrants are eventually exercised.

While preferred shares tend to be less volatile than common shares, one type of preferred is noted as being even more stable in price than the others. This would be A) adjustable rate. B) participating. C) convertible. D) callable. Explanation Because the dividend payment adjusts to current interest rates, the price of the stock remains relatively stable. In other words, it is the return that fluctuates rather than the price.

adjustable rate

Different categories of preferred shares offered by an issuer A) must all be convertible shares. B) all must have the same fixed dividend rate. C) must all be callable shares. D) all have preference over the issuer's common shares.

all have preference over the issuer's common shares.

All else being equal, which of the following preferred would pay the highest dividend? A) Cumulative preferred B) Callable preferred C) Straight preferred D) Participating preferred

callable preferred

An example of a fixed-income security would include all of the following except A) common stock that has historically paid dividends. B) a municipal bond that has historically made late interest payments. C) preferred stock that has historically paid dividends. D) a money market instrument that has historically made timely interest payments.

common stock that has historically paid dividends. explanation: Securities that have an agreed rate of return, such as bonds, notes, money market instruments, and other debt instruments, are deemed fixed-income securities. Preferred stock acts in many ways like a bond in that it has a fixed dividend rate, making it a fixed-income security. Common stock may or may not pay a dividend depending on the board of directors. Common stock is not deemed a fixed-income security.

An example of a fixed-income security would include all of the following except A) a municipal bond that has historically made late interest payments. B) preferred stock that has historically paid dividends. C) common stock that has historically paid dividends. D) a money market instrument that has historically made timely interest payments.

common stock that has historically paid dividends. Securities that have an agreed rate of return, such as bonds, notes, money market instruments, and other debt instruments, are deemed fixed-income securities. Preferred stock acts in many ways like a bond in that it has a fixed dividend rate, making it a fixed-income security. Common stock may or may not pay a dividend depending on the board of directors. Common stock is not deemed a fixed-income security.

Which of the following features of preferred stock allows the holder to reduce the risk of inflation? A) Noncumulative B) Callable C) Cumulative D) Convertible

convertible explanation: Fixed-dollar investments, such as bonds and preferred stock, are subject to inflation risk, which is the risk that the fixed interest or dividend payments will be worth less over time in terms of purchasing power. The ability to convert to common stock, which tends to keep pace with inflation, offsets this risk.

Preferred shareholders who expect missed dividend payments to be eventually paid are most likely to own A) straight preferred stock. B) convertible preferred stock. C) callable preferred stock. D) cumulative preferred stock.

cumulative preferred stock.

A share of stock in the hands of a stockholder represents

entitlement to receive profits through dividends when distributed and the right to vote for who will serve on the board of directors (BOD). explanation: Each share of stock entitles its owner to a portion of the company's earnings through dividends when distributed and a proportionate vote in major management decisions such as electing individuals to the BOD.

In the dividend disbursement process three of the four critical dates are determined by the board of directors (BOD) but one is determined by either Financial Industry Regulatory Authority (FINRA) for OTC stocks or the exchange for listed stocks. Which one is it?

ex-dividened date explanation: Declaration, record, and payment dates are determined by the board of directors (BOD), but FINRA, or the exchange, determines the ex-dividend date.

Because common stock can be sold or given away, it is considered to be A) voted by proxy. B) limited in liability. C) freely transferrable. D) preemptive.

freely transferable

Because common stock can be sold or given away, it is considered to be A) preemptive. B) freely transferrable. C) limited in liability. D) voted by proxy.

freely transferrable explanation: Common stock is freely transferable to anyone who wants to buy it or receive it as a gift. In this regard, shareholders have the right to sell or give away their shares without permission of the corporation.

The growth potential in the price of preferred shares is generally considered to be A) no different than that of the issuer's common shares. B) less than that of the issuer's common shares. C) unrelated to the financial well-being of the issuer. D) greater than that of the issuer's common shares.

less than that of the issuer's common shares. explanation: While the growth potential of both common and preferred shares can be tied to a company's financial well-being, preferred share growth is generally less than that of the common shares. The trade-off is that the preferred shares have preference with dividends received, enjoy a fixed rate of return via those dividends, and have a priority claim over common shareholders in the event of bankruptcy and the dissolution of assets.

A shareholder owns preferred shares that allow for the possibility of receiving more than the stated dividend. This type of preferred share would be known as A) participating. B) callable. C) convertible. D) adjustable.

participating explanation: In addition to the fixed stated dividend, participating preferred stock offers its owners the possibility of receiving a share of corporate profits that remain after all dividends and interest due other securities are paid.

Callable preferred stock is advantageous to the issuing company because it allows the company to

replace a higher, fixed-rate issue with a lower issue after the call date. explanation: By issuing a callable preferred stock, a corporation can call in a high dividend payment issue and replace it with a lower one when interest rates have fallen. This feature allows the company to take advantage of reduced interest rates by calling in high-rate preferred issues and replacing them with lower ones.

Regarding the rights of a common stockholder, each of the following is true except A) stockholders can vote for those who will serve on the board of directors. B) stockholders may never be part of the management of the company. C) stockholders have the right to receive audited financial statements annually. D) stockholders have a limited right to examine the minutes of meetings held by the board of directors.

stockholders may never be part of the management of the company.

Interest-rate sensitivity for preferred shareholders should be understood to mean that A) when interest rates fall, so do the prices of preferred shares. B) when interest rates rise, so do the prices of preferred shares. C) preferred share prices are not impacted by (insensitive to) changes in interest rates. D) when interest rates rise, the prices for preferred shares can fall.

when interest rates rise, the prices for preferred shares can fall