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Test 3 Study GuideCh. 11 Common StockCommon StockCommon stock owners are Residual owners – holders of common stock have no guarantee that they will receive any return on their investments (preferred stock and debts paid first)Advantages• Returns on common stock at greater than bonds (some bonds outperform stocks)• Easy to buy and sellDisadvantages• Risk• Subject to high volatility• Sacrifice in current incomeIssuing new shares of stock• Public offering – offering new shares of stock to the public• Rights offering – existing stockholders are given the first opportunity to buy the new issueCommon Stock as Corporate Security• Stock spin-offs – when a company gets rid of one of its subsidiaries or divisionso Ex. Ralston Purina spun off Energizer• Stock splits – increasing the # of shares and decreasing market priceo Ex. 2for1 split $1.00 share @ 10,000 shares = $.50 @ 20,000• Treasury stock – company buys back outstanding shares of stock• Classified common stock – class A vs. class Bo Ex. Ford – class A = 1 vote/share, class B offers higher voting power (40%)o Dividends vs. no dividendsCommon Stock Values• Par Value - stated, or face, value of a stocko Almost irrelevant• Book Value – amount of stockholders equity in a firmo Amount of stockholders funds used to finance the firmo =ASSETS – LIABILITIES – PREFFERED STOCKo Per share = BV/#of shares• Market Value – prevailing market price of an issueo Market capitalization (“market cap” – ex. $50/share * 1,000,000 shares = $50 million• Investment value – what the investor values the stock at o What it “should” be trading forCommon Stock Dividends (typically paid quarterly)EPS (earnings per share) = Net Profit after taxes – Preferred dividends # of shares of common stock outstandingImportant dates• Date of record – date on which the investor must be a registered shareholder of the firm to be entitled a dividendo All investors who are official holders at the close of this date will receive the dividends• Payment date – follows record date by week or two• Ex-dividend date – official shareholder of the stock (by the time it opens)o Must must buy stock before this dateo Can sell on this dateTypes of Dividends• Cash dividends – a cash payment to shareholders; most commono Dividend Yield = Annual dividends received per share Current market price of the stocko Dividend payout ratio = Dividends per share Earnings per share• Stock dividend – dividend paid in additional shares of stock; almost no valueo ex. 10% stock dividend – each holder receives 1 for every 10 shares ownedDividend Reinvestment Plans (DRIP) – reinvesting $ to additional shares• “If a company is good enough to invest in, it’s good enough to reinvest in.”• Partial participation – part $ part reinvestment• Some plan offer stock at a discount (3-5%)• Not to be confused with stock dividends; must pay taxes on themTypes of Common Stock• Blue-Chip Stocks – cream of the crop, most impressive, most attractiveo Ex. Nike, P&G, Chevron• Income Stocks – appealing because of the dividends that they pay, limited growth potentialo Dividends > Capital gains• Growth Stock – very rapidly growing stock, could be considered blue-chipo Ex. Netflix, Starbucks, Berkshire Hathaway etc..o Capital gains > dividends• Tech Stocks – represent the technology sector of the marketo Potential growth, speculative, & blue-chips• Speculative stocks – lack sustained records of success but offer the potential for substantial price appreciationo Could hit it big• Cyclical stocks – earnings linked with the general level of business activityo Do especially well when the country is recovering• Defensive stocks – price remains stable or even increase when the economy is tapering off• Mid-Cap stocks – steady returnso Ex. A & F, Whole Foods, Nordstromo Baby blue-chip – just like blue chip except size• Small-Cap stocks – small companies o IPO (initial public offering)Investing in Foreign Markets• Tax barriers, language barriers, foreign country stock markets are deregulated• ADR (American Depository Receipts) – represent ownerships in a foreign companyo Trade in market as ADS (American depositary shares)o Difference ADR – legal document that describes the securityo Difference ADS – the vehicle through which you invest in the securityo ADS represent shares in ADR• Total returns = current income + capital gains (+/-) changes in currency exchange ratesAlternative Investment Strategies• Common stocks used as: (1) storage of value, (2) way to accumulate capital, (3) source of incomeStrategies• Buy-and-Hold – buy security & watch it grow (retirement, education, etc)• Current income – seek high levels of current income (supplement)• Quality Long-Term Growth – less conservative, seeks capital gains as the primary source of return; greater risko Total return approach – combining high income & gains• Aggressive stock management – seeking eye-catching returns (mainly through capital gains)o Like QLTG but trades moreo Ex. Goes after 2 years returns in 6 months; risks• Speculation and Short-Term Trading – least conservative, the shorter the time in which the objective can be achieved the bettero SOLELY capital gainso Many transactions little or no profits & large lossCh. 13 Mutual FundsMutual funds – portfolio of securities, sometimes resembles an index • Unlimited # of shares (open ended)• HIGHLY Liquid• Trade directly with fundo Buy & sell shares directly with fun (redeem)• NO supply and demand• NAV = asset value – liabilities | NAV/Share = NAV/# of shares• Long term investmento Fund does not like people who jump in and out• Priced once at end of trading day• Funds management split; have management company (runs daily operations), investment advisor (buys, sells, and oversees), distributor (sells the funds shares), custodian (physically safeguards the assets), and transfer agent (keeps track of purchase and redemption requests)Close-ended funds – funds that have a limited # of shares traded on the secondary market• Limited shares• Trade between investors/traded on exchange (just like stock)• Supply and demand apply• NAV – same as mf• Can sell at premium or discount (due to S&D)• Pay commisionsExchange-Traded Funds (ETF) – and open-ended


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FSU FIN 3244 - Test 3 Study Guide

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