SIE EXAM - Section #2 (Products & Their Risks)

Equity Definition

an ownership position in a company

Types of Equity

1. Common Stock

2. Common Stock Equivalents

3. Preferred Stock

4. Pre-emptive Rights

5. Warrants

6. Stock Options

7. Repurchase Agreements (REPo)

8. American Depository Receipts (ADRs)

Types of Equity: Common Stock

most fundamental way to taking an ownership position

• shareholders are responsible for voting on corporate policies & electing a BOD

• Dividends can be given out (cash or stock)

Common Stock Liquidation

In the event of liquidation shareholders are entitled to company assets (cash) AFTER creditors, bondholders, and preferred stockholders

• limited liability exists here so they cannot lose more than they paid for the stock

Types of Equity: Common Stock Equivalents

securities that can be converted into common stock once the market price of the security is above the exercise price

Ex. of Common Stock Equivalents

Convertible Bonds, convertible preferred stock, options, warrants, and some bonds

Employee Stock Options (ESOPs)

ex. of common stock equivalent - offers discounts options/warrants which can be converted to CS once vested

Types of Equity: Preferred Stock

has certain advantages - ex. fixed cumulative dividends, no voting, and priority repayments in the event of liquidation

Types of Equity: Pre-emptive Rights

When a corporation plans to raise additional capital, they will issue a new round of common stock but offer their existing shareholders these stocks before the general public

Types of Equity: Warrants

certificates that give holders the right to buy common shares directly from a corporation at a fixed price before the warrant expires (proceeds serve as a source of capital for the corporation)

Types of Equity: Stock Options

holders have the right to buy common shares at a set price until the options expire (shorter timeframe than a warrant and a lower set price)

• usually take the form of employee compensation

• follow a vesting schedule

Vesting Schedule Definition

employees’ full ownership to employer provided assets over time

Repurchase Agreement (REPo)

agreements between 2 parties where securites are repurchased from a seller for a certain amount of time & the seller agrees to repurchase the securities at a slightly lsigher price than the purchase price (serve as short-term loans for tax/accounting purposes)

• instrument traded is usually of high quality & can be used as collateral

• ex. US Treasury Bond

  • FED enters into REPo as a way to regulate money supply

American Depository Receipt (ADR)

certificates that represent shares of a foreign company’s stock (trade on the stock exchanges and are priced in US dollars)

Shareholder Rights: Voting

CS have the right to vote for the BOD (one vote = one share)

Voting: Statutory System

votes apply to every board position (6 open positions & 50 shares = 50 votes per open position)

Voting: Cumulative System

stockholder can allocate votes disproportionately among positions (300 total votes, 50 shares * 6 open position)

Freely Tradeable Stock

right to sell stock they own without an limitation/restriction

Restricted Securities

unregistered securities acquired through private sale

Control Securities

held by an affiliate of the issuer and, because of the resale limits, are considered restricted

SEC RULE 144

permits the resale of restricted securities under certain conditions (min. prior holding pd & adequate information available to the public before the sale)

Market Risk

in a declining mkt/crash stocks of profitable/solid corporations may or will drop in market value

Business/Sector Risk

if a particular business is suffering poor results due to a declining public demand for their products/bad management, or the overall sector they’re in (airlines, energy, etc.) is suffering, then the market value of their stock will suffer

Order of Liquidation Payments

applicable domestic support obligations & certain allowable administrative claims paid → assets used to pay off debts → equity paid off (preferred before common stockholders)

Debt Payback Process

Debt issuers borrow money from investors → pay interest for the use of that money → pay back the loan principal at the end of the loan term (maturity date)

Treasury Securities: Treasury Bills (T-Bills)

short term borrowing of 1 year or less

interest is paid at maturity, and is determine as the excess face amount/discounted-by-interest purchase price

Treasury Securities: Treasury Notes

intermediate borrowings (2-10 years)

interest is paid semi-annual and is exempt from state tax

Treasury Securities: Treasury Bonds

long term borrowings (up to 30 years)

interest is paid semi-annually and is exempt from state tax

Treasury Securities: Bill Auctions

on a weekly basis, the U.S. Treasury holds public actions of T-bills by which investors place competitive bids or non-competitive tenders on the offerings (price set once all bids are in → investors who bid at or above winning yield - lowest discount rate - receive the bills)

Ginnie Mae/Fannie Mae/Freddie Mac

Entities facilitate the mortgage market for primarily residential housing & may issue short- or long-term debt securities for funding purposes  

Municipality Definition

a city or town that has corporate status and a local governement.

• these local govs will borrow money in numerous ways to fund capital asset projects, cover daily obligations, or cover cash flow deficits

Municipal Securities: General Obligation Bond

traditional financing method for capital asset projects (infrastructure, buildings, utility lines, etc.) - not backed by collateral, but is backed by municipality’s total tax & op. revenue

Municipal Securities: Revenue Bond

issued to fund public projects - purchasers repaid from the income generated by the specific project the bond was funding rather than total revenue

Municipal Securities: Special Tax Bonds

combo of General obligation & Revenue bonds - municipalities issue these to fund public projects and increase a specific tax (excise or special assessment tax) to repay bondholders (ex. excise tax on tobacco or fuel)

Municipal Securities: Authority Bonds

issued to enable construction of an income-producing facility (toll bridge or airport) where the revnue from the business operations will pay the interest & repay the principal at maturity

Municipal Securities: Taxable Bonds

fixed-income municipal securities issued to fund projects not subsidized by the federal gov bc they do not provide meaningful beenfit to the general public (sport facilities, public pension funding, refinancing exisiting debt)

NOT TAX EXEMPT

Municipal Securities: Municipal notes

short-term debt securities that mature in a year or less (Interest & principal are paid in one payment at the time of maturity and are exempt from federal tax income)