Equities - Missed

Which of the following statements are TRUE about ADRs? I ADR holders receive dividends II ADR holders can vote for the Board of Directors III ADR holders receive the cash value of pre-emptive rights IV ADRs trade on national stock exchanges

Correct Answer C. I, III, IV Record your answer Review this concept Print this question The best answer is C. ADR holders receive dividends that are remitted by the depositary bank. The ADR holder cannot subscribe to a rights offering since the actual underlying stock is not registered in the United States, hence the shares cannot be issued directly to U.S. Holders. Instead, the depositary bank sells off any rights and remits the money to the receipt holders. ADRs trade on national stock exchanges, and trade over-the-counter as well. The holder of an ADR cannot vote, since he owns a "receipt," not the underlying shares. The bank that actually owns the underlying shares votes.

ABC Corporation has recently completed a $20,000,000 offering of 10% debentures due in 2035. Each bond was sold with a warrant attached that allows the holder to buy 10 shares of ABC common stock at $50 per share. The market price of ABC is currently $42. Which statement(s) are TRUE? I The warrants help to increase the issue's marketability II The warrants help to lower the interest cost on the issue III The warrants are "under water" IV The company will raise an additional $10,000,000 if the warrants are exercised

Correct Answer D. I, II, III, IV Record your answer Review this concept Print this question The best answer is D. Warrants are "sweeteners" that are attached to bond and preferred stock offerings to make them more marketable. Because the warrants have potential value, the issue can typically be sold at a lower interest cost (higher price) than if the warrants were not attached. At issuance, the warrants are usually issued "out the money" - as in this example the warrants allow the stock to be purchased at $50 but the stock's current value is $42. Thus, these warrants are said to be "under water" and will not have real value until the stock price rises above $50. If the warrants are exercised, the 20,000 debentures issued ($20,000,000/ $1,000 par) can be converted into 10 shares of stock each for a total issuance of 200,000 shares. The company will receive $50 per share, for a total of $10,000,000

Preferred dividends may be paid as: I Cash II Stock III Stock of another company A. I only B. II only C. I or II D. I, II, III

Record your answer Review this concept Print this question The best answer is A. Preferred dividends may only be paid in cash. This differs from common stock, which can be paid a dividend in the form of cash, stock, or product.

ABC 10% $100 par preferred is trading at $120 in the market. The current yield is: A. 5% B. 8.33% C. 10% D. 125

Record your answer Review this concept Print this question The best answer is B. The formula for current yield is: Income / market price 10 of PAR price = $10 / 120 = 8.33

A customer buys 100 shares of preferred at $80 per share. The par value is $100. The dividend rate is 10%. The customer will receive how much in each dividend payment? A. $400 B. $500 C. $800 D. $1,000

Record your answer Review this concept Print this question The best answer is B. Preferred dividends are based on a stated percentage of par value. The stated rate is 10% of $100 par = $10 annual dividend per preferred share. Since there are 100 shares, the annual dividend is $1,000. Remember, though, that preferred dividends are paid twice a year, so each payment will be for $500.

A corporation is offering a new issue consisting of 100,000 units at $200 each. Each unit consists of 2 shares of preferred stock and a warrant to buy one additional common share. A full warrant allows the purchase of an additional common share at $5. If all the warrants are exercised, the corporation will have: A. 100,000 preferred shares and 100,000 common shares B. 200,000 preferred shares and 100,000 common shares C. 200,000 preferred shares and 50,000 common shares D. 50,000 preferred shares and 100,000 common shares

Record your answer Review this concept Print this question The best answer is B. Since each unit consists of 2 preferred shares, 100,000 units X 2 = 200,000 preferred shares. Since a warrant which enables one to buy one additional share is also attached to each unit, 100,000 units X 1 = 100,000 additional common shares issued if the warrants are exercised.

XYZ Company has issued 10%, $100 par non-cumulative preferred stock. Two years ago, XYZ omitted its preferred dividend. Last year, it paid a preferred dividend of $5 per share. This year, XYZ wishes to pay a common dividend. In order to make the distribution to common shareholders, each preferred share must be paid a dividend of: A. 0 B. $5 C. $10 D. $15

Record your answer Review this concept Print this question The best answer is C. Since the preferred stock is noncumulative, to make a dividend distribution to common shareholders, the company need only make this year's preferred dividend distribution. The stated dividend rate on the preferred is 10% based on $100 par, so $10 of preferred dividends must be paid per share. If this preferred were cumulative, then all omitted dividends must be paid before a distribution can be made to common. Please note that almost all preferred stock issues are cumulative - but non-cumulative issues must still be known for the exam.

A corporation has issued 50,000,000 shares of common stock at $2 par. The corporation has 10,000,000 shares of Treasury Stock on its books. The aggregate value of the outstanding shares is: A. $20,000,000 C. $40,000,000 C. $80,000,000 D. $100,000,000

Record your answer Review this concept Print this question The best answer is C. Outstanding stock is: Issued stock (50,000,000 shares) minus Treasury stock (10,000,000) = 40,000,000 shares outstanding at $2 par = $80,000,000.

During periods of stable interest rates and increasing stock prices, which type of preferred stock will have the greatest price volatility? A. Cumulative B. Reset C. Callable D. Convertible

Record your answer Review this concept Print this question The best answer is D. Preferred stock is a fixed income security, similar to a bond, where the price of the security moves inversely to interest rate movements. If interest rates are stable, this implies that preferred stock prices will be stable as well. However, convertible preferred stock, if the price of the stock moves up above the conversion price, trades at parity to the equivalent number of common shares into which the preferred stock can be converted. Thus, as the market price of the common stock rises (which has nothing to do with interest rate movements), the price of the preferred will move up as well. Virtually all preferred stock is cumulative - if the company misses preferred dividend payments, then before it can pay a common dividend, it must make up all unpaid preferred dividend payments. Callable preferred gives the issuer the right to call in the preferred at a pre-established price, which the issuer would do if market interest rates fell. This would tend to suppress the upward movement of the stock price to no more than the call price as market interest rates fell. In a period of stable interest rates, the issuer has no reason to call the preferred stock. Reset preferred "resets" the dividend rate as market interest rates move (also called adjustable rate preferred) - so it is a variable rate security. In a period of stable interest rates, the dividend rate would be unchanged and therefore the price of the preferred stock will be stable as well (unless the credit quality of the issuer deteriorated, jeopardizing the dividend payment - this event would cause the price of the preferred shares to drop).

A middle-aged widowed customer has an investment objective of stable income and would also like to receive occasional "extra" income to help pay unexpected bills. What type of preferred stock would be the best recommendation? A. Participating preferred B. Convertible preferred C. Straight preferred D. Variable rate preferred

The best answer is A. Preferred stock that pays a fixed dividend rate is "straight" preferred. Participating preferred receives the fixed dividend rate, and also participates with common in any "extra" dividends paid by the company - so this meets the customer's investment objective. Convertible preferred has a fixed dividend rate that is lower than straight preferred, but in compensation for this, it can be converted into a predetermined number of common shares at the option of the holder. Thus, the holder can have capital gains if the market price of the common stock rises. Variable rate preferred has a dividend rate that is tied to a market rate of interest, and the dividend rate varies as that rate varies - so it does not meet the customer's objective of stable income.

ABC 10% $100 par preferred is trading at $115 in the market. The current yield is: A. 8.7% B. 9.5% C. 10% D. 11.5%

The best answer is A. The formula for current yield is: Annual income / market price Since dividends are quoted and paid at par... $10 / 115 = 8.7%

The market price of common stock will be influenced by which of the following? I Expectations for future earnings of the company II Expectations for future dividends to be paid by the company III Book value per share IV Par value per share A. I and II only B. III and IV only C. I, II, III D. I, II, III, IV

The best answer is A. The market price of common stock is determined by investor expectations about the future of the company. Par value and book value have no bearing on the market price of the common.

The essential difference between a sponsored and an unsponsored ADR is: A. SEC registration B. Issuer sponsorship C. Bank sponsorship D. Broker-dealer market making

The best answer is B. Sponsored ADRs are sponsored by the issuing foreign corporation. When an ADR is sponsored, the issuer agrees to provide financial statements to the ADR holder in English. The NYSE, AMEX (NYSE American) and NASDAQ will only list sponsored ADRs. Unsponsored ADRs are assembled without the participation of the issuer. For example, a bank may assemble an ADR issue consisting of shares of a Japanese computer manufacturer. Since the Japanese firm is not "sponsoring" the ADR, any financial information received about the company will be in Japanese (unless the company also happens to prepare English language reports).

A corporation has issued 20,000,000 shares of common stock at $2 par. The corporation has 5,000,000 shares of Treasury Stock on its books. The aggregate value of the outstanding shares is: A. $10,000,000 B. $30,000,000 C. $40,000,000 D. $50,000,000

The best answer is B. Outstanding stock is: Issued stock (20,000,000 shares) - Treasury stock (5,000,000 shares) = 15,000,000 shares outstanding at $2 par = $30,000,000 value.

Which of the following do NOT pay dividends? I Preferred Stock II ADRs III Warrants IV Real Estate Investment Trust Shares A. I only B. III only C. III and IV D. II and IV

The best answer is B. Preferred stock pays a fixed dividend rate; American Depositary Receipt holders receive dividends; and Real Estate Investment Trusts are a type of common stock that is no different from other common shares, and thus they make dividend distributions to shareholders. Holders of warrants and rights do not receive dividends on these instruments. In order to receive dividends, these must be exercised, which results in the purchase of the common shares.

Which of the following statements about warrants are TRUE? I At issuance, warrants have intrinsic value II Warrant valuation is directly influenced by the market price of the common stock III Warrant valuation reflects market expectations for future earnings of the company IV Warrant valuation reflects the life of the instrument A. I and II only B. III and IV only C. II, III, IV D. I, II, III, IV

The best answer is C. At issuance, warrants typically have exercise prices well above the current market price of the common stock. Thus, for the warrant to have real value, the market price of the common must rise above the exercise price of the warrant. Warrant valuation is directly influenced by the common stock price, the life of the warrant, and expectations for future corporate earnings.

Which of the following statements are TRUE when comparing convertible preferred stock and non-convertible preferred stock? I Convertible preferred stock will have a higher yield than non-convertible preferred stock II Convertible preferred stock will have a lower yield than non-convertible preferred stock III Convertible preferred stockholders benefit as the market price of the common stock rises IV Convertible preferred stockholders benefit as the market price of the common stock falls A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. Non-convertible preferred yields are higher than convertible yields. A non-convertible preferred stockholder gets a fixed rate of return without any growth potential. A convertible preferred stockholder can convert to common if the common's price rises, so growth potential is included. Because of this, yields for convertible preferred are lower than for non-convertible preferred.

Stockholder approval is needed if a corporation wishes to do all of the following EXCEPT: A. split its stock 1 for 2 B. split its stock 2 for 1 C. repurchase shares for Treasury D. issue convertible securities

The best answer is C. Stockholder approval is needed for a stock split, because it changes the par value of the stock. The State in which the company is incorporated typically requires shareholder approval of a par value change. In contrast, dividend decisions, either in cash or stock, do not require shareholder approval because they are "paid" out of retained earnings and do not affect par value per share. They are made solely by the Board of Directors of the company. Issuance of convertible securities requires shareholder approval because it is potentially "dilutive" (if the securities are converted, there will be more common shares outstanding, and earnings per common share will fall). The repurchase of shares for Treasury will boost earnings per share, because there will be fewer shares outstanding. This boosts the value of the existing common shares, so no shareholder approval is required. This is another decision that is made solely by the Board of Directors.

During a period of stable interest rates, which type of preferred stock would show the greatest price volatility? A. Cumulative B. Adjustable rate C. Participating D. Callable

The best answer is C. Preferred stock is interest rate sensitive, since it is a fixed income security. As market interest rates rise, preferred stock prices fall. As market interest rates fall, preferred stock prices rise. If market interest rates are stable, preferred stock prices should be stable as well. However, participating preferred stock gives the preferred participation in any "extra" dividends declared by the company to its common shareholders. Thus, the declaration of such an extra dividend would make the preferred stock more valuable and its price would go up in the market - and this did not happen because market interest rates fell. Almost all preferred stock is cumulative - any unpaid dividends accumulate and must be paid before a common dividend can be paid. A call provision can suppress the price of preferred from rising as market interest rates drop, since it is likely that the issuer will call in the preferred and issue new stock at lower current rates. However, during a period of stable interest rates, the call provision has no impact of the preferred stock's price. Adjustable rate preferred moves the dividend rate up or down as market interest rates move up or down. With any variable rate security, the dividend or interest rate moves and the price stays right at par. Furthermore, when interest rates are stable, the dividend rate will not adjust and the price will be stable as well.

If interest rates fall, issuers most likely will call: I low dividend rate preferred issues II high dividend rate preferred issues III preferred issues trading at a premium IV preferred issues trading at a discount A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. If interest rates fall, issuers most likely will "call in" old high rate preferred and replace it by selling new preferred at the lower current rates. High rate preferred will sell at a premium if market interest rates are dropping.

Preferred stock market valuation is based primarily upon: A. future earnings expectations for the issuer B. short term market interest rate levels C. long term market interest rate levels D. future dividend payment expectations for the issuer

The best answer is C. Preferred stock prices are based on market interest rates. Preferred stock is a fixed income security, and hence, when market interest rates move, the yield on the security adjusts to the market rate. When interest rates rise, preferred stock prices fall, increasing the yield on the security; and when interest rates fall, preferred stock prices rise, decreasing the yield on the security.

A customer buys 1,000 shares of ABCD $25 par 8% cumulative preferred stock. This preferred issue pays quarterly dividends. This year, it missed the first 3 quarterly dividends. In the 4th quarter, it paid a common dividend of $.25 per share. In order to do this, it must have paid this preferred shareholder: A. $400 B. $500 C. $1,600 D. $2,000

The best answer is D. (because it's cumulative) This customer owns 1,000 shares of $25 par cumulative preferred, for a face value of $25,000. In order to have paid the common dividend,the company must have paid the preferred shareholder the 3 missed quarterly dividends in addition to the current quarterly dividend. Therefore, it must pay the annual dividend amount of 8% of $25,000 = $2,000 to this preferred shareholder.

All of the following terms describe rights EXCEPT: A. exercisable B. negotiable C. giftable D. redeemable

The best answer is D. Rights are not redeemable with the issuer. The rights have a value based upon the lower subscription price available to the holder of the rights than the current market price. The holder of the rights has a number of choices as to their disposition. He can sell them in the market at this value, since the rights are negotiable. He can exercise the rights, buying the stock at the subscription price. He can give the rights as a gift to someone else.

A middle-aged widowed customer has an investment objective of stable income and wants minimal market and liquidity risk. What type of preferred stock would be the best recommendation? A. Participating preferred B. Convertible preferred C. Straight preferred D. Variable rate preferred

The best answer is D. Variable rate preferred has a dividend rate that is tied to a market rate of interest, and the dividend rate varies as that rate varies. When market interest rates rise, the dividend rate rises; when market interest rates fall, the dividend rate falls. Because the dividend rate varies, the price of the security stays right at par value and has minimal market risk. In contrast, any fixed income security, which includes the other types of preferred stock, is subject to market risk. When market interest rates rise, the value of any fixed rate security must fall, making its yield competitive with current market rates. Finally, all preferred stock has minimal liquidity risk. Preferred shares are listed and trade, so the shares can be sold readily at low cost.