8.2 - Features of Common Stock

Question 1

Common Stock

Answer 1

equity without priority for dividends or in bankcruptcy

Question 2

How do shareholders control a corporation?

Answer 2

they have the right to elect directors who then hire management to carry out their directives

therefore, shareholders control the corporation in their right to elect directors

Question 3

What are the additional rights of shareholders under the Canadian Business Corporations Act?

Answer 3

1. Right to share proportionally in dividends paid.
2. Right to share proportionally in assets remaining after liabilities have been paid in a liquidation.
3. Right to vote on shareholder matters of great importance, such as mergers, at annual or special meetings.

Sometimes:
Preemptive right to buy new stock before it is offered to the public to maintain proportionate ownership.

Question 4

What are important characteristics of dividends

Answer 4

1. Dividends are not a liability of the corporation; a corporation cannot default on an undeclared dividend.
2. Dividends are paid from after-tax profits and are not deductible for corporate tax purposes.
3. Dividends received by individual shareholders are partially sheltered by a dividend tax credit.

Question 5

What is the purpose of having different classes of stock in Canadian corporations?

Answer 5

1. Dual classes of stock often exist to allow control over the firm while raising equity capital without sacrificing control.
2. Non-voting or limited-voting shares may be issued to raise capital while keeping voting power concentrated.
3. Such structures can include provisions like “coattail” which protect non-voting shareholders in takeover bids by allowing their conversion to voting shares.

Question 6

What is a cottail provision

Answer 6

protects non-voting shareholders by giving them rights to vote or right to convert to voting shares on certain takeover bids

Question 7

What percent of voting shares is required to maintain control?

Answer 7

just over 50%

Question 8

Price of voting vs. non voting shares

Answer 8

voting shares tend to sell at a premium over non-voting shares

Question 9

Do all classes of shares pay the same dividends?

Answer 9

no, different classes of shares can pay different dividends, adding flexibility to when diff owners receive income

Question 10

Preferred Stock

Answer 10

stock with dividend priority over common stock - normally with a fixed dividend rate
without voting rights

Question 11

Dividends of preferred stock features

Answer 11

• usually have a stated divident (based on par value of stock) that must be paid before common dividends can be paid
• often paid quarterly
• preferred dividends can be deferred indefnitely (they may decide not to pay the dividend on preferred shares)

Question 12

Cumulative vs. Non cumulative preferred stock dividends

Answer 12

cumulative: if the dividends are not paid in a particular year, they are carried forward as an arrearage

• the cumulated (past) preferred dividends plus current preferred dividends must be paid before the common stock shareholders receive anything

Question 13

arrearage

Answer 13

legal term for the part of a debt that is overdue after missing one or more required payments

Question 14

What does it mean that “dividends of preferred shares can be deferred indefinitely”

Answer 14

• preferred dividends are not debts of the firm so the firm can decide not to pay them, and then they are carried forward as arrearage

when preferred dividends are deferred
-common shareholders must also forego dividends
- holders of preferred shares are often granted voting rights and other rights if preferred dividends have not been paid for some time

Question 15

why might firms have an incentive to delay paying preferred dividends

Answer 15

because preferred shareholders receive no interest on cumulated dividends

Question 16

How are preferred shares similar to debt

Answer 16

• they are often callable by the issuer and the holder has the right to sell the preferred stock back to the issuer at a set price
• preferred shares often carry credit ratings just like bonds
• preffered dividends take priority over common dividends
• often has obligatory sinking fund

example: sinking fund required that 2% of the original issue be retired each year, then the issue would be completely retired in 50 years