CB

Ch. 8 - Common_and_PreferredShares

CHAPTER 8: Equity Securities - Common & Preferred Shares

8.1 Introduction

  • Content Source: The slides for this course are adapted from the Canadian Securities Institute (CSI) and modified by Fanshawe College.

  • Recommendation: Students should read the textbook chapters thoroughly and utilize online learning resources for comprehensive understanding.

8.2 Overview of Topics

  • Common Shares

  • Preferred Shares

  • Stock Indexes and Averages

8.3 Chapter Highlights

  • Purchasing common or preferred shares signifies an ownership stake in a company.

  • Returns on investment are linked to company performance.

  • Volatility in interest rates primarily affects corporate bonds; bondholders receive priority over shareholders in bankruptcy.

8.4 Common Shares

8.4.1 Reasons for Purchasing Common Shares

  • Ownership Stake: Investors gain a direct ownership interest.

  • Capital Growth: Potential for increasing value of shares over time.

  • Profit Sharing: Investors may receive dividends based on company profitability.

8.4.2 Rights and Advantages of Common Shares

  • Potential for Capital Appreciation: Value of shares can increase significantly.

  • Dividends: Shareholders may receive dividends, though they are not guaranteed.

  • Tax Treatment: Favorable tax treatment for dividends and capital gains.

  • Voting Privileges: Shareholders generally have the right to vote on corporate matters.

  • Limited Liability: Investors' liability is limited to the amount invested in shares.

  • Marketability: Common shares can be bought and sold easily in markets.

8.4.3 Understanding Dividends

  • Payment Conditions: Dividends are not contractual; they are declared by the board.

  • Record Date: Shareholders on record receive dividends, typically declared weeks in advance.

  • Ex-Dividend and Cum Dividend: Determines who is entitled to the upcoming dividend based on purchase timing relative to record date.

  • Types of Dividends: Regular, extra, and stock dividends vary in form and frequency.

8.5 Restricted Shares

  • Shares that participate in earnings but may lack voting rights.

8.5.1 Types of Restricted Shares

  • Non-Voting: No voting rights except in special circumstances.

  • Subordinate Voting: Voting rights exist but are inferior to another class of shares.

  • Restricted Voting: Voting subject to limitations on the number or percentage of shares voted.

8.6 Stock Splits and Consolidations

8.6.1 Stock Splits

  • Purpose: Adjust share prices to a more attractive range.

  • Example: A 2-for-1 split means holding twice as many shares at half the price.

8.6.2 Consolidations or Reverse Splits

  • Purpose: Increase share price to improve refinancing capacity.

  • Example: A 1-for-10 split means fewer shares at a higher price.

8.7 Preferred Shares

8.7.1 Characteristics of Preferred Shares

  • Preference in Payments: Dividends are paid before common shares.

  • Business Failure Priority: Preferred shares have a higher claim than common shares during liquidation.

8.7.2 Reasons for Issuing Preferred Shares

  • Flexibility for companies with high debt-to-equity ratios.

  • Fixed returns for investors without diluting common share earnings and voting control.

8.7.3 Investor Advantages and Risks

  • Advantages: Steady cash flows with preferential tax treatment and ranking.

  • Risks: Vulnerability to purchasing power risk, interest rate hikes, and potential company failure.

8.7.4 Types of Preferred Shares

  • Convertible: Can be converted into common shares.

  • Retractable: Provides a buyback option on a specified date.

  • Floating-Rate or Variable Rate: Dividends change with interest rate fluctuations.

  • Foreign Pay: Dividend is in foreign currency, leading to exchange risk.

8.8 Stock Indexes and Averages

8.8.1 Definition and Functions

  • Stock Index: A numerical series measuring percentage changes in stock prices over time.

  • Importance: Helps investors gauge performance and market trends.

8.8.2 Types of Stock Indexes

  • Value-Weighted Indexes: Companies with larger market caps impact changes more significantly.

  • Arithmetic Average: Represents the average price of a selection of stocks.

8.8.3 Major Market Indexes

  • Canadian Indexes: S&P/TSX Composite, S&P/TSX 60, etc.

  • U.S. Indexes: S&P 500, Dow Jones, NASDAQ, Value Line.

  • International Indexes: Nikkei 225, FTSE 100, DAX, CAC 40.

8.9 Summary

  • Common shares offer capital gains, dividends, and voting rights, while preferred shares are favored for predictable income and tax benefits.

  • Preferred shares have prioritization over common shares and provide companies with alternatives to traditional debt.

  • Stock indexes serve as benchmarks for overall market performance.