Finance Chapter 7

Dividend yield is...

expected dividend/stock price

The most common characteristics and rights associated with common stock

1. Par Value- In many cases, common stock does not have a par value. However, corporations that are chartered in certain states are required to assign par values to their common stocks. Legally, the par value of a common stock represents a stockholder's minimum financial obligation in the event the corporation is liquidated and its debts are repaid. 2. Dividends- The firm has no obligation, contractual or implied, to pay common stock dividends. Some firms pay relatively constant dividends year after year; other companies do not pay dividends for many years after they go public. 3. Maturity- Like preferred stock, common stock has no specified maturity; that is, it is perpetual. At times, however, companies repurchase shares of their common stock in the financial markets. Stock repurchases might be undertaken when (1) the firm has excess cash but no good investment opportunities; (2) the price of the firm's stock is undervalued; or (3) management wants to gain more ownership control of the firm by repurchasing stock from other investors, thereby increasing the percentage owned by management. 4. Priority to Assets and Earnings- Thus, as investors, the common stockholders are last in line to receive any cash distributions from the corporation. 5. Control of the Firm (Voting Rights)- The common stockholders have the right to elect the firm's directors, who in turn appoint the officers who manage the business. Stockholders also vote on shareholders' proposals, mergers, and changes in the firm's charter. In a small firm, the major stockholder typically assumes the positions of president and chairperson of the board of directors. In a large, publicly owned firm, the managers typically own some stock, but their personal holdings are insufficient to provide voting control. Thus, if stockholders decide that the management team of a large, publicly owned company is not effective, they can join together to vote to remove the executives. 6. Preemptive Right- A provision that gives existing common stockholders the right to purchase new issues of common stock on a pro rata basis before any shares can be offered to other investors.

Some of the features that are associated with preferred stock

1. Par Value- important for two reasons: (1) it establishes the amount due to the preferred stockholders in the event the firm is liquidated and (2) the preferred dividend generally is stated as a percentage of the par value. 2. Cumulative dividends- A protective feature on preferred stock that requires preferred dividends that were not paid in previous years to be disbursed before any common stock dividends can be paid. 3. Maturity- Preferred stock generally has no specific maturity date. 4. Priority to Assets and Earnings- Preferred stockholders have priority over common stockholders, but not debt holders, with regard to earnings and assets. 5. Control of the Firm (Voting Rights).-Nearly all preferred stock is nonvoting stock, which means that preferred stockholders neither elect the members of the board of directors nor vote on corporate issues. However, preferred stockholders often are given the right to vote for directors if the company does not pay the preferred dividend for a specified period, such as two years. 6. Convertibility- Most preferred stock that has been issued in recent years is convertible into common stock. The conversion feature works the same as for a bond (discussed in Chapter 6). The preferred stockholder has the option to convert each share of preferred stock into a certain number of shares of common stock (at the conversion price). 7. Other Provisions i. Call provision—A call provision gives the issuing corporation the right to call in the preferred stock for redemption. -As in the case of bonds, call provisions generally state that the company must pay an amount greater than the par value of the preferred stock, with the additional amount being dubbed a call premium (The amount in excess of par value that a company must pay when it calls a security.) ii. Sinking fund—Most newly issued preferred stocks have sinking funds that call for the repurchase and retirement of a given percentage of the preferred stock each year. iii.Participating—A rare type of preferred stock is one that participates with the common stock in sharing the firm's earnings. Participating preferred stocks generally work as follows. (a) The stated preferred dividend is paid—for example, $5 per share. (b) The common stock is then entitled to a dividend in an amount up to the preferred dividend. (c) If the common dividend is raised, say, to $5.50, the preferred dividend must likewise be raised to $5.50.

Types of Common Stock

1. classified stock- Common stock that is given a special designation, such as Class A, Class B, and so forth, to meet special needs of the company. 2. founders' shares- Stock, owned by the firm's founders, that has sole voting rights but generally pays out only restricted dividends (if any) for a specified number of years.

What factors affect stock prices?

Price increases if expected dividend is higher or expected growth is higher or required rate of return is lower and vise versa.

Equity Instruments in International Markets

American depository receipts- (ADRs)"Certificates" that represent ownership in stocks of foreign companies and are held in trust by banks located in the countries where the stocks are traded. Foreign Equity (Stock)- Includes: i. Euro stock- Stock traded in countries other than the home country of the company, not including the United States. ii. Yankee stock- Stock issued by foreign companies and traded in the United States.

income stocks

Stocks of firms that traditionally pay large, relatively constant dividends each year.

growth stocks

Stocks that generally pay little or no dividends so as to retain earnings to help fund growth opportunities.

Capital gains yield is...

the growth rate, or: (expected price - current price)/current price