1

CHARACTERISTICS

OF

COMMON STOCKS

2

THE CORPORATE FORM

• FEATURES OF THE CORPORATE FORM– common stock with limited liability– charter issued to begin – stock certificates

• ownership claim• transfer agent conducts title change• registrar issues certificates

3

THE CORPORATE FORM

• FEATURES OF THE CORPORATE FORM– voting

• cumulative voting system does not give majority owner control

• majority voting system: straight voting and allows majority owner control

4

THE CORPORATE FORM

• FEATURES OF THE CORPORATE FORM– takeovers

• usually done with a tender offer by a bidder to a target firm

• bidder usually offers to buy at a stated price some or all of the shares held by current stockholders

• WHITE KNIGHT is a firm making a better offer• GREENMAIL is an attempt to buy share held by

bidder at above-market price

5

THE CORPORATE FORM

• FEATURES OF THE CORPORATE FORM– ownership v. control

• know as principal-agent problem

• stockholder motive is to maximize wealth

• agent may make decisions for other reasons

• a solution:– give management stock options giving incentive to

maximize their own wealth as well as stockholders

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COMPONENTS OF STOCKHOLDERS’ EQUITY

• Par Value• the value authorized by the charter for initial capital

stock

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COMPONENTS OF STOCKHOLDERS’ EQUITY

• Book Value Formula: Cumulative retained earnings

+Capital Contributed in

excess of par

+Common stock

BOOK VALUE OF THE EQUITY

8

COMPONENTS OF STOCKHOLDERS’ EQUITY

• Reserved and Treasury Stock• some corporations repurchase some of the stock

outstanding

• this becomes known as treasury stock

9

CASH DIVIDENDS

• DEFINITION: the portion of profits paid in cash to the stockholders– Process of Payment

• declaration date

• date of record

• ex-dividend date

• payment date

10

STOCK DIVIDENDS AND SPLITS

• STOCK DIVIDENDS AND SPLITS– Stock Dividend

• issued in place of a cash payment

• a 5% stock dividend results in

example: 5% of 100 shares = 5 shares

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STOCK DIVIDENDS AND SPLITS

• Stock Split• new shares issued after the split

example: a 2 for 1 split (par=$1)

a 200 share holder receives 400 new shares

at $.50 par

• thus, there is no dilution of the shareholder’s equity position

12

STOCK DIVIDENDS AND SPLITS

• EX-DISTRIBUTION DATES– similar to ex-dividend date– 2 business days before the date of record

13

STOCK DIVIDENDS AND SPLITS

• REASONS FOR STOCK DIVIDEND AND SPLITS– some believe splits signal the stock is

undervalued in the market– splits will bring market price to a more

desirable (usually lower) range – following a split, research shows investors

receive a positive abnormal return

14

STOCK DIVIDENDS AND SPLITS

• PREEMPTIVE RIGHTS– a legal right interpreted differently depending

upon the country– in the U.S. the stockholders have an inherent

legal right to maintain the proportion of ownership they may control

– when new shares are issued• current owners must be given first right of refusal

15

COMMON STOCK BETAS

• Role of Beta• DEFINITION: it is a measure of a stock’s

sensitivity to future market movements

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COMMON STOCK BETAS

• Calculation using linear regression the model equation is specified

ri = rIi where ri is the return of stock i

is the average return of stock i

is the stock i’s beta

rIis the return on the index

i is the error term

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COMMON STOCK BETAS

• the standard error of beta indicates the extent of standard deviation of the estimates

18

COMMON STOCK BETAS

• correlation coefficient indicates how closely the stock’s returns were explained by the index returns

19

COMMON STOCK BETAS

• coefficient of determination represents the proportion of variance in the stock’s return to variance in the index’s returns

20

COMMON STOCK BETAS

• 1-the coefficient of determination represents the amount of the stock’s variance that cannot be explained by variances in the index returns

• i.e. nonsystematic risk