5.) Raising Capital through Equity Flashcards
Briefly describe how response to supply and demand may cause share prices to fluctuate
An increase in demand, and a reduction in supply will drive prices up, versus a decrease in demand and an increase in supply will drive prices down
Define why shares are seen as volatile investments
Their price can fluctuate
Define the reasons why share prices fluctuate
Response to supply and demand. An increase in demand, and a reduction in supply will drive prices up, versus a decrease in demand and an increase in supply will drive prices down
Poor/favourable company results or unexpected results
Takeover bid rumours/speculation
Poor/good management
Political climate
Economic climate including interest rates, exchange rates, inflation rate
Price movements on other major stock markets
Actions taken by speculators
Confidence in the markets
Note that share prices are deemed as volatile investments due to the fact that their price can fluctuate
Further note that equity investments (stocks) can provide income and capital growth to the investor, but holders face various risks including:
The risk of an adverse price movement
The risk of potential difficulty in selling the shares
The risk that the profit the company makes won’t be adequate to pay a dividend return.
Define ordinary shares
Ordinary shares represent the portion of a company’s capital that’s owned by the ordinary shareholder.
The number of shares issued by a company is determined by the amount of share capital to be raised and the par value or nominal value of the shares.
E.g. ABC Company may seek to raise £500,000 by issuing 500,000 ordinary shares with a par value of £1 or by issuing 1,000,000 ordinary shares with a par value of £0.50p
Define and briefly describe examples of shareholders rights
Ordinary shareholders have an ownership stake in the company, which attach to it a number of rights:
Right to a dividend, a variable share in the profits of the company (note that investors will also stand to lose money if the company underperforms or goes into liquidation)
Right to attend, speak, vote and appoint a proxy in the company’s AGM (Annual General Meeting)
Right to a surplus on liquidation (other liabilities and creditors will have to be repaid before the ordinary shareholders receive anything)
Right to statutory protection for minority shareholders, provided by the Companies Act 1985 and 1989
Right to receive the company’s annual reports and accounts
Right to subscribe for any new share capital or loan stock in proportion to existing holdings
Right to receive bonus issues in proportion to existing holdings
Right to transfer their shares freely (unless restrictions apply in the Articles of Association)
Define dividend
A variable share in the profits of a company, payable to shareholders
Define the acronym AGM
Annual General Meeting
Define the different types of ordinary shares
Ordinary shares
‘A’ Ordinary shares
‘B’ Ordinary shares
Deferred Dividend shares
Deferred Ordinary shares
Redeemable shares
Define the key characteristics of Ordinary shares
Holders have full voting rights and are entitled to dividends
Define the key characteristics of ‘A’ Ordinary shares, as a type of ordinary shares
Holders won’t have voting rights, but will be entitled to dividends. Market price will normally be lower due to the lack of voting rights
Define the key characteristics of ‘B’ Ordinary shares, as a type of ordinary shares
Shares rank equally with ordinary shares except that instead of a cash dividend, shareholders receive a free issue of shares to the equivalent value
Define the key characteristics of Deffered Dividend shares, as a type of ordinary shares
Shares rank equally with ordinary shares, but the payment of dividends is deferred until a specified date.
Market price will normally be lower and are more attractive to investors seeking capital growth rather than income
Define the key characteristics of Deffered Ordinary shares, as a type of ordinary shares
Also referred to as founder shares - holders aren’t entitled to any dividend until the rest of the ordinary shares have reached a minimum level
What are Deffered Ordinary shares also referred to as?
Founder shares
Define the key characteristics of Redeemable shares, as a type of ordinary shares
Shares are redeemable at the company’s option at some time in the future for a sum of money
Define Preference shares
All companies that are quoted on the stock exchange must have ordinary shares, but they need not have preference shares.
Preference shares give superior rights to their holders over and above ordinary shares.
They are not equity capital so technically cannot be referred to as equities
Preference shares do not normally carry the right to vote in general meetings, but to compensate dividends are constant and are expressed as a percentage of the nominal value of the shares.
Although there is a fixed dividend payable, this is not guaranteed.
Preference shares can only be paid from available profits, and at the discretion of the directors.
Therefore, if no profits exist to cover the dividend payment, the preference dividend may not be made
Define and describe the rights of a shareholder of a preference share
Preference share values are constant, and are expressed as a percentage of the nominal value of the shares
Preference shareholders have priority of dividend payment over ordinary shareholders; no ordinary dividend can be paid unless the preference shareholders have received their dividend
Preference shareholder dividends are usually cumulative, unless otherwise stated, thereby giving the preference shareholders rights to receive any arrears of dividend from the company
Preference shareholders will usually have priority of repayment over the ordinary shareholders should the company go into liquidation. The repayment will only be the nominal amount of the shares, the preference shareholder will not be entitled to participate in any surplus
Define and briefly describe the various types of preference shares
Cumulative - if the company is unable to pay a dividend, the unpaid dividend is accumulated and will be paid once the company had earned sufficient profits
Non-cumulative - any unpaid dividend is NOT accumulated and is NOT paid to the preference shareholder
Participating - a fixed dividend is received plus a right to participate in surplus profits of the company along with ordinary shareholders
Redeemable - the company has the right to redeem the shares at some point in the future
Convertible - the preference shareholder had the right to covert at some future date to a specified quantity of ordinary shares
Define shareholders
Shareholders are owners of a limited company, and as owners of fully paid shares, do not have legal responsibility for the company’s debts. This ownership cannot make the shareholder personally liable.
Should the company go into liquidation, the shareholder will be entitled to receive any surplus only after payment of all external liabilities
Define directors
Directors manage the day-to-day business and operational activities on the shareholders behalf.
Executive directors are appointed and removed by the shareholders of the company, usually at the Annual General Meeting (AGM).
Executive directors have a legal obligation to run a company in the best interests of the shareholders and are usually appointed due to their business acumen, experience, knowledge and skills
Compare the roles of shareholders and directors in a limited company
Shareholders are owners of a limited company, and as owners of fully paid shares, do not have legal responsibility for the company’s debts. This ownership cannot make the shareholder personally liable.
Should the company go into liquidation, the shareholder will be entitled to receive any surplus only after payment of all external liabilities
Directors manage the day-to-day business and operational activities on the shareholders behalf.
Executive directors are appointed and removed by the shareholders of the company, usually at the Annual General Meeting (AGM).
Executive directors have a legal obligation to run a company in the best interests of the shareholders and are usually appointed due to their business acumen, experience, knowledge and skills
Define dividends
Dividends represent an ordinary shareholder’s share of the company’s profits in proportion to their share holding. From any profits earned, companies will pay dividends to its shareholders, but will also retain a substantial part of its profits in order to provide for maintenance and expansion of the business.
This element of ‘retained profits’ is critical as it provides reserves to the company should it require cash in future years. It is also fully attributable to the ordinary shareholder
Define retained profits
Retained profits is the percentage of net earnings not paid out as dividends, but retained by the company to be reinvested in its core business, or to pay debt.
Define who in a company declares dividends, and how they may be declared
Dividends are declared by the directors of the company, and may include ‘interim’ and a ‘final’ dividend:
The interim dividend may be declared at some point during the trading year
The final dividend is declared and approved at the company’s AGM
Define why the amount of dividend that a shareholder receives may vary, and what forms dividends can take
The amount of dividend received by the ordinary shareholder isn’t a fixed amount, and will vary according to the dividend policy and profits earned by the company during that trading year.
A company may choose to pay a dividend using:
A cash sum
By a ‘scrip’ - issuing new shares instead of cash
By a ‘special dividend’ - an additional, one-off dividend
When will the amount of a dividend to be paid out, the dividend payment date and the record date of a dividend be announced?
On the declaration date
Define how a shareholder is seen to be eligible to receive a dividend
To be eligible to receive a dividend, a shareholder must be a registered member of the shares as at the record date.
The ‘record date’ is the cut-off date selected by the company to determine which shareholders will receive the dividend payment
Define the ‘record date’, in terms of dividends to be paid to shareholders
The ‘record date’ is the cut-off date selected by the company to determine which shareholders will receive the dividend payment
Describe why there must be a cut-off time before the record date, for investors who are willing to buy and sell shares?
This gives the registrars time to compile an accurate list of eligible shareholders.
This ex-dividend date is determined by the stock exchange.
The share price will be quoted with the letters ‘xd’ after it. This advises investors that during this period (around 5 working days), the buyer of shares won’t receive the next dividend, which will be retained by the seller. The price of shares will fall to reflect this. The opposite of ‘xd’ is cum dividend
Define the advantages of holding shares as an asset
Benefit from capital gains if share prices rise over a period of time
Benefit from income if the company pays a dividend from profits
Diversify risk by buying shares in different companies, sectors, geographic locations
Owner in the company therefore have various rights
Easily transferable, therefore able to buy and sell the investment
Information on popular shares are easily available, and investor can keep a track on his investment
Define the disadvantages of holding shares as an asset
Exposed to capital risk if share prices fall over a period of time
Income is only available if the company has made a profit - there’s no guarantee that it will have
Cannot vote to increase the dividend, as this is at the discretion of the directors
The asset is unsecured, therefore in the event of a company’s liquidation, you may not receive your capital investment if there isn’t enough funds to pay other creditors
Any capital gains is subject to CGT
Despite diversification, investments will still be subject to systemic (market) risks which affect all portfolios (interest rate risk, economic risk, foreign exchange risk, etc)
