FIN 3244 TEST 3 Ch 11 Up to page 240 Stop at Types and uses of common stock Stock General behavior The economy and stock returns typically move together In the long run stocks will earn positive returns Difference between individual and group movement Returns Total Returns Capital gains Dividends Capital gains The difference between the price of what you sell a stock for and the price you paid for it Majority of returns come from capital gains Can only happen once you have sold a stock not what you currently hold in a portfolio More risky The price of stocks usually earns positive returns over long time horizon based on average Dividends current income Periodic payments made by firms to shareholders partial returns of residual profits to the owners of the company Dividends are more stable Dividend returns less volatile than capital gains returns A special dividend is a paid one time dividend not normally paid Can offset capital losses or boost capital gains Advantages Stocks asset class with the highest probability of providing high returns to investors over time Any category of things that have value Over the past 100 years stocks have earned annual returns two times the size of corporate bonds Stocks are good hedge vs inflation Stocks are highly liquid ease of turning into cash and at a fair price Transaction costs are relatively small Price and market info easy to get Disadvantages Stocks Volatile subject to many types of risk o Internal Risk Come from the firm itself is the firm well run etc o External Risk Risks that the firm cannot control oil prices terrorist attacks natural disasters they are systematic risks impacting all firms in a way it s through the whole system can t do anything to prevent these risks o Hard to predict the future value of firm stock market economy o Sacrifice current income give up the opportunity to invest in bonds and other investments o Can be wide swings Firm earnings Stock market performance Ways firms alter their market value MV shares x price For all of the following Why and How Stock splits Increasing the number of shares through splits reduces the stock price Spin offs A division subsidiary separates from the firm Becomes a stand alone company that is publicly traded No longer a good fit more profitable on its own Stock repurchases What happens to existing shareholder s market value o The share s price will fall since the parent company is losing something of value that s part of it the market value of the firm will decrease its going to get smaller Does not change the number of shares in the parent company it just loses a division the firm just becomes smaller the price will fall o To compensate for the spin off you will receive some number of shares of the new company for owning the parent company o A brand new company is created without doing an IPO Companies think their share price is undervalued and worth more so they buy back their own shares at the current market price they think their stock will rise in the future investing in themselves Treasury stock buybacks When companies buyback their shares they retire their stock to their corporate treasury where the stock stays It wouldn t make sense for the company to earn dividends on its own stock By doing this it also takes the shares out of circulation these shares can later be sold on the market at any other later time The company is decreasing the number of outstanding shares thus increasing the stock price Way of returning profits to shareholders through capital gains opposed from paying dividends One time only process Can also use these stocks for mergers accusations payment form and stock options Seasoned offerings Rights offerings Publicly vs privately traded Common Shares Outstanding ownership rights Stock represents an ownership position in a firm Together common shareholders own the company Each share entitles owner to an equal ownership position Equal vote Equal voice in management Most firms issue shares but most aren t publicly traded Too small Family or privately controlled Publically traded issues Readily available to the general public Listed firms are subject to SEC regulations Equity capital is the funds received by the firm s sale of stock New Shares Go to Market Initial Public Offering IPO s Proceeds from new shares go to issuing firm in the primary market Seasoned Offerings Different than IPO s these firms already have publicly traded stock that are impacted by supply and demand Rights Offering Existing stockholders get 1st chance to buy new shares proportionate to current holdings Shareholders are not required to buy but the firm is required to make the offering This allows current shareholder to maintain the same percentage of ownership after the offering as before the offering prevents shareholders holdings to be diluted when the offering occurs Rights have value these rights can be sold if the existing shareholder chooses not to sell them since the stock may be cheaper How do the shareholders not lose money when the seasoning offering takes place Buy the shares since they will cheaper or sell the offering right Classified Common Stock Different classes have different privileges benefits Voting Rights none 1 vote share or multiple votes share Multiple vote share stocks are reserved for certain people like the firms family members and when they are sold they revert back to the class of stock that represents 1 vote share Dividends Different amounts or paym t schedules May let specified group maintain corporate control Dividends paid before those of common stock The returns are slightly safer and less uncertain than common shareholders Hybrid both aspects of bonds and stock like bonds its pays a stated dividend rate the board can adjust this rate Dividends are paid first to preferred stockholder than common Classes of Common Stock Preferred Stock Hybrid Terminology shareholders Par Value The stated or face value of a stock used in accounting Book Value Amount of firm s equity belonging to stockholders BV Firm s assets Firm s liabilities Preferred stock Market Value MV shares x price MV of share Current market price of last stock trade Share price In the case of a portfolio is the sum of the value of the portfolio s contents MV of firm MV of share of common shares outstanding also known as Market Capitalization Investment Value Intrinsic value The Price an investor believes a firm should trade at what you think its worth Everyone can have a different intrinsic value
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