SIE Chapter 3-- Equities

Rule 144

regulates the sale of restricted securities and control (affiliated) securities - control securities = securities acquired in the secondary market by control/affiliated persons (officers, directors, and other insiders) - provisions: holding period, notice of sale, and volume limitation

FINRA Rule 2261 - Disclosure of Financial Condition

investor can request info related to firm's financial condition as disclosed in most recent balance sheet

Common Stock: Authorized Shares

shares of common stock that a firm's corporate charter (documents establishing the corp) allows it to issue - most corps use fewer shares than what's authorized to keep it available for future use

Common Stock: Treasury Stock

stock that had been issued and then repurchased by the corp - this stock has no voting rights and receives no dividends

Crunch Time Fact #4

A warrant is an instrument that allows the holder to buy stock at a predetermined price for a long period.

Crunch Time Fact #8

Restricted stock (unregistered stock that's acquired through a private placement) must be sold under the provisions of Rule 144

Participating Preferred Stock

can receive dividends greater than stated dividend rate if company is doing well

Callable Preferred Stock

company can repurchase the stock at a specified price in the future

XYZ corporation has 7,000,000 shares of common stock ($1 par value) authorized, of which 5,000,000 shares have been issued. There are 500,000 shares of treasury stock. The current market price of XYZ is 20. The market capitalization of XYZ common stock is:

$9,000,000 A company's market capitalization is found by multiplying the market value by the outstanding shares. $20 market value x 4,500,000 shares outstanding = $90,000,000.

Convertible Preferred Stock

- allows owner to convert par value of the preferred stock into a predetermined number of common shares at a specified price (stated conversion price) - trade-off is lower dividend rate - conversion ratio = number of shares to which an investor is entitled (par value/conversion price)

Cumulative vs. Non-Cumluative Preferred Stock

- cumulative: all missed dividends (including prior years) must be paid to preferred stock holders before any can be paid to common stock holders - non-cumulative: missed div payments don't accumulate year-over-year

Rule 144: Holding Period

- restricted securities: purchaser must generally hold securities for 6 mo before selling (must be reporting/legit company) - control securities: affiliated persons are not required to hold for a specific period of time

Chapter 11 bankruptcy claim priority list

1) secured creditors 2) administrative claim 3) unsecured creditors 4) preferred stock 5) common stock

A company based in Europe with offices located in New Jersey would like to have its stock traded on the NYSE. This would most likely be accomplished through the issuance of:

American Depositary Receipts American Depositary Receipts (ADRs) facilitate U.S. investment in the stock of foreign corporations. When the foreign securities are deposited in a U.S. bank based in that country, a receipt for those securities is issued and traded in the U.S. as if it were the foreign security itself.

Last year, a company failed to pay the full dividend to its preferred shareholders, but now wants to pay a cash dividend on its common shares. Which preferred stock must be paid all of the dividends in arrears before the dividend can be paid on its common shares?

Cumulative Preferred If a corporation has failed to pay dividends in full on its preferred shares, cumulative preferred stock must be paid any dividends in arrears (missing) before common shares are paid cash dividends. Participating preferred allows the holder to receive an additional amount (along with common shares) if company profits reach a certain level. Convertible preferred can be converted into common stock of the issuer, and callable preferred can be called back from the holder by the issuer

A method of voting that gives smaller, less substantial stockholders a greater degree of voting power over the larger, more substantial stockholders is:

Cumulative Voting A method of voting that gives larger, more substantial stockholders a greater degree of voting power over smaller, less substantial stockholders is statutory voting. Under statutory voting, each stockholder has one vote per share, per election. For example, if a corporation is electing three directors, and a shareholder owns 100 shares, the shareholder could cast 100 votes in each election. Cumulative voting permits shareholders to concentrate their votes for one favored candidate. For example, if a corporation is electing three directors and a shareholder owns 100 shares, that shareholder could cast 300 votes for one director, potentially having a larger influence on that one election.

An individual is interested in an investment that offers annual income, has the potential of appreciating in value if interest rates decline and, in the event that the issuer fails to make a payment, having the missing amount added to future distributions. For this investor, which of the following securities is the most suitable?

Cumulative preferred stock Individuals generally purchase preferred stock for income. As with any security that pays a fixed rate, there is the potential for appreciation if interest rates decline. There are several types of preferred stock. Cumulative preferred stock will add all unpaid dividends to a future payment if a cash dividend is to be paid to common shareholders. Participating preferred stock allows the owners to share in the extraordinary earnings of a company. Essentially, participating preferred has a stated dividend, but these shareholders may receive more than that amount based on the profits of the issuing company. Convertible preferred stock allows the owner to convert the stock into a fixed number of common shares. Callable preferred stock allows the issuer to retire (call) the stock in at a predetermined price.

Preferred Shares:

Don't have the right to vote Preferred shares receive dividends before the common shares. In addition, preferred shares will be paid before common shares if the company declares bankruptcy (i.e., if the firm is liquidated). However, the bondholders are paid before the preferred shares in bankruptcy. Typically, only common shareholders of a company receive the right to vote in corporate elections.

Rule 144 Notice of Sale

Notice of Sale · 90 day period in which securities may be sold · Exemption if sale is <= 5,000 shares or <= $50,000 Volume Limitation · Max allowed greater between 1% outstanding shares and average weekly trading volume during the 4 weeks proceeding

In a Chapter 11 bankruptcy proceeding, which of the following has the highest priority claim?

Secured debt holders In a bankruptcy proceeding, secured creditors are given the highest claim priority. For companies is the U.S., there are two types of bankruptcy proceedings -- Chapter 7 and Chapter 11. Chapter 7 is when the company is going out of business and all of the assets owned by the company are sold. This type of bankruptcy is also referred to as liquidation. Chapter 11 is also referred to as reorganization because the company is not going out of business; instead, it's taking steps to come out of the proceedings in a healthier financial position.

Statutory vs Cumulative Voting

Statutory: one vote per one share per one issue (better for bigger investors) Cumulative: can multiply number of shares by number of voting issues and can put all votes toward one issue

A corporation wants to offer its shareholders the ability to obtain shares at a fixed price. Which security should the corporation issue?

Rights Rights (preemptive rights) are issued by corporations and offer existing shareholders the ability to purchase additional shares at a fixed price. Exchange-traded options (e.g., calls and puts) are not directly issued by an issuer as a means of raising capital.

Crunch Time Fact #13

A company makes a tender offer for 40,000 shares at $10. An investor who owns 1,000 shares will receive $10,000

Crunch Time Fact #5

A company will issue warrants in order to pay a lower interest rate on its bonds.

Crunch Time Fact #12

A risk that's unique to ADRs as opposed to domestic stocks is political risk.

Crunch Time Fact #1

Authorized shares are not required to be issued.

When warrants are issued, the exercise price is:

Higher than the current market price of the stock Warrants are typically issued with a strike price that's higher than the current market price of the stock (i.e., at a premium).

Preferred Dividends

Must be satisfied before common dividends Preferred shares receive dividends before the common stock dividends can be paid. However, a company doesn't guarantee preferred dividends will be paid each year.

Crunch Time Fact #11

Preemptive rights give existing shareholders the ability to maintain their percentage of ownership and control of the company

Crunch Time Fact #2

Preferred stock has a fixed dividend, but the payment is not guaranteed and is determined by the company's earnings

The certificate which gives a person other than the stockholder the right to vote is referred to as a:

Proxy The certificate which gives a person other than the stockholder the right to vote is referred to as a proxy. Although stockholders have the right to attend shareholder meetings in person, most do not. Instead, the stockholders sign a proxy which directs a designated person on how to vote their shares.

FINRA Rule 2262 - Disclosure of Control Relationship with Issuer

broker that has control relationship with issuer of any security (member firm is publicly traded or if it's a subsidiary of a publicly traded company). ex: custoer has an account at LRR investments and is purchasing 1,000 shares of LRR Incorporated, which is listed on the NYSE. In this case, LRR must disclose the existing control relationship between the two firms.

Common Stock: Outstanding Stock

issued stock minus treasury stock - Market cap is outstanding shares * price

Rule 144: Volume Limitation

max amount seller can sell during the 90-day period is GREATER between: 1) 1% of total shares outstanding 2) average weekly trading volume during 4 weeks preceding the filing

A French company would like to have its stock traded in the U.S. securities markets. This would most likely be accomplished through the issuance of:

American Depository Receipts American Depositary Receipts (ADRs) facilitate U.S. investment in foreign securities. The foreign securities are deposited in a branch of a U.S. bank located in that country. A receipt for those securities is then issued and traded in the U.S. as if it were the foreign security itself. A Global Depository Receipt (GDR) is incorrect because it trades in foreign markets, not in the U.S.

Crunch Time Fact #10

Cumulative preferred shares must receive all previously unpaid dividends (i.e., dividends in arrears) before common shares receive dividends.

A corporation's shareholders must vote for:

Stock splits The board of directors has control over dividends but must have shareholder approval for a stock split.

Common and preferred stock are similar in that:

The dividends for both must be declared by the board of directors Dividends for both common and preferred stock must be declared by the board of directors. While preferred stock normally has a fixed dividend, neither common nor preferred stockholders are guaranteed a dividend.

A corporation has a 9% cumulative preferred stock issue outstanding. The company paid a $7 dividend two years ago and $8 last year. If the company wants to pay a common stock dividend in the current year, the cumulative preferred stockholders must first receive a dividend of:

$12 The cumulative preferred stockholder should receive a yearly dividend of $9. Since it's a cumulative issue, any dividend that's not paid (in arrears) must be made up prior to a common dividend being paid. If a common dividend is to be paid in the current year, the cumulative preferred stockholders must first receive $12 ($2 missed from two years ago plus $1 missed from last year plus the full $9 for the current year).

Warrants (corp issued call options)

- give shareholder ability to buy the issuer's common stock at a specified "subscription" price in the future - long life compared to rights - subscription price is set above market price, so profit can be realized when market price is above sub price --amount greater=intrinsic value, note actual value due to cap appreciation can be greater than intrinsic value - can be traded separate from the stock itself

Preferred Stock Pricing

- normally issued with par/face value of $100 - 5% preferred stock carries 5% dividend ($5) - dividend rate can also be stated as a dollar amount (quoted dividend could be $3- means 3%) - dividend is that max amount that company will pay in dividends (company can pay less when performing poorly)

American Depository Receipts (ADRs)

- represents foreign securities while actual securities are held by US banks overseas - ADR shareholders have dividend rights but don't directly receive preemptive rights - sponsored ADRs-- foreign corp pays bank to issue shares in US and raise capital, they're officially listed - unsponsored ADRs-- foreign corp doesn't pay for their shares to be traded in the US (depository bank issues the ADR)

Preemptive Rights

- rights offering is when current shareholders are given the opportunity to buy additional shares of stock before the company offers them to the public - investors can exercise rights, or trade them on the second market - one right per current share owned - # rights for new share, price of new shares, and available period for exercising the rights varies

Rule 144: Notice of Sale

- seller must file form 144 with SEC at time the sell order is placed with BD. SEC provides 90 day window to sell per filing of 144 - exemption of notice is available if the amount doesn't exceed 5,000 shares or if sale value totals less than $50,000

Common Stock Restricted Securities

- shares which can't be sold include shares owned before IPO or received as part of their work compensation - lock-up agreements dictate when stock bought before IPO can be sold (usually after 6 months)

Common Stock: Voting

- statutory voting-- one vote for one share per one issue - cumulative voting-- multiply number of shares owned by the number of voting issues (total number can be cast at owner's discretion)

Which of the following investments is the MOST suitable for a person who is interested in aggressive growth?

Common Stock Of the choices listed, common stock has historically provided the greatest potential for growth. Bonds and preferred stock are typically suitable for investors who are seeking income

Foreign stocks trade in U.S. markets as:

American Depositary Receipts (ADRs) American Depositary Receipts are used to facilitate the trading of foreign stocks in the United States. Unregistered securities are securities sold to investors that do not require registration with the SEC (for example, a private securities offering). An exchange-traded fund (ETF) is a type of investment company that represents a basket of securities and is traded on an exchange. The basket of securities usually represents an index such as the Nasdaq 100 or the S&P 500. A closed-end mutual fund is also a type of investment company that issues a fixed number of shares.

Preemptive rights provide which of the following benefits to their holders?

Their proportionate ownership will not be diluted if additional shares are issued If a company decides to issue additional shares, preemptive rights allow existing shareholders to maintain their proportionate interest in the company by exercising their rights.

Crunch Time Fact #9

Under the provisions of Rule 144, the SEC notification requirement does not apply to the sale of registered securities being sold by non-affiliates

Crunch Time Fact #14

Under the statutory voting method, the number of votes that a common stockholder has to cast for members of the board of directors is based on the number of shares owned.

The security with the longest expiration date would normally be a:

Warrant A warrant generally has an expiration date longer than a put, call, or right. There are some warrants which never expire.

An investor would have the right to buy the stock of a corporation for the longest period of time by purchasing a:

Warrant A warrant is the right to purchase a fixed number of shares, at some future time, at a fixed price. This is also true of rights and call options but warrants may be exercised over a longer period of time. A put option is the right to sell securities at a fixed price within a fixed period of time.

Which of the following statements is TRUE regarding warrants?

Warrants can be perpetual Warrants can be perpetual in their duration and are issued by the corporation that also issues the common stock. Warrants give the holder the ability to convert the warrant into the common stock of the same corporation at a specified price and at the holder's option.

Which of the following represents the correct ranking of securities from longest to shortest life?

Warrants, options, rights Rights usually last less than 60 days. Options usually last for nine months or less, although some can exist for three years. Warrants usually have a life span of several years and they can even be perpetual.

Treasury stock:

Was previously issued stock that has been subsequently repurchased by the corporation Treasury stock is stock that has been reacquired by the issuing corporation. Treasury shares don't receive dividends and don't carry voting rights.

Crunch Time Fact #6

When comparing rights, warrants, and options, warrants have the longest period to expiration from the time of issuance.

SEC Rule 10b-18 - Purchases of Certain Equity Securities by the Issuer

controls how an issuer/affiliates may purchase its own stock in the secondary market. Safe Harbors: 1) only one BD is used to place bids and make purchases during any trading session. 2) Purchases are not made during certain times of the day. (can't be first, can't be in last 30 mins (last 10 if actively traded stock) 3) The bid or purchase price of securities is limited to certain prices (highest independent bid or last independent transaction price) 4) Amount of stock purchased on any single day is limited to 25% of the ADV

Common Stock: Rights of Shareholders

1) inspection-- investors can see certain company books (often released annually) 2) vote-- vote on BoD, stock splits (NOT dividend decisions), and mergers (# votes = # shares owned) 3) dividends 4) evidence of ownership-- owners can get certificates proving they own stock 5) transfer-- can sell the stock they own ('restricted' shares which can't be sold are shares owned before IPO or received as part of their work compensation)

If a corporation believes that its stock is undervalued, which of the following actions will cause the share price to rise?

Buying back some of the shares One reason that a company will buy back its own shares is that it believes that the stock is undervalued. Once the buy-back is done, there are fewer shares (i.e. lower supply) and the price of the shares will typically rise. Issuing new shares will increase the number of shares outstanding, which could decrease the price of the shares. Creating new rights and warrants could also increase the shares outstanding, which is likely to cause the stock's price to decrease.

Crunch Time Fact #7

Characteristics of rights include that they are provided to existing shareholders, they allow for the purchase of shares at a predetermined price, and they are transferable; however, they do NOT receive dividends

Crunch Time Fact #3

Convertible preferred stock will change in value as the underlying common stock changes

A company in which your client owns stock is about to make a rights offering. The client informs you that he does not plan on subscribing to the offer. You would tell the client that his proportionate ownership interest in the company would:

Decrease If an individual does not subscribe to additional stock in a rights offering, his proportionate ownership interest in the company will decrease.

If a company is utilizing statutory voting, how many votes will a common shareholder receive per vacant seat on the board?

One vote for each share that the stockholder owns When using the statutory voting method, a shareholder is given one vote, per share, per open seat on the board. For example, if an investor owns 1,000 shares and there are three openings on the board, she's able to cast 1,000 votes for the three open seats. If she chooses not to use all of her 1,000 votes per open seat, she cannot transfer them to another candidate. If the company utilized a cumulative voting system, a shareholder is able to multiply the number of shares owned by the number of open seats on the board. With this method, the stockholder is able to be very selective in how to cast her votes. For example, a stockholder may choose to use all of her votes on only one candidate, thereby making it more likely that her candidate will gain a seat on the board.

Which of the following regulates the resale of restricted securities?

Rule 144 Rule 144 and 144A regulate the process by which restricted (unregistered) securities may be resold. Regulation D sets the regulations for raising capital through private placements. Rule 147/147A establish the requirements for intrastate offerings. Rule 145 establishes the registration requirements for the reclassification of securities