Equity Flashcards
If shareholders have limited liability, this means that:
If the company fails, shareholders only liable for their equity investments.
What is the risks associated with ordinary shares and preference shares?
The riskiest form of investment as dividends are variable and share prices may fluctuate.
Preference shares are less risky but offer a lower potential return.
What are the main differences between ordinary shares and preference shares?
Ordinary
- Voting rights
- Variable dividend amounts
- Dividends paid out last (after preference share dividends)
- Shareholders paid last in the instance of liquidation.
- Shareholders may receive any surplus after liquidation. No redemption date.
Preference
- No voting rights.
- Dividends are a fixed % of nominal value.
- Dividends can be skipped + usually cumulative.
- Shareholders paid second to last in the instance of liquidation.
- Shareholders would receive the nominal value in the instance of liquidation.
- May be redeemable.
What are American Depositary Receipts (ADRs)?
Securities that trade in the US representing shares in non-US companies. This allows US investors to gain exposure to non-US investments, and to avoid high foreign currency transaction costs.
$ denominated and $ dividend.
What are Global Depositary Receipts?
Similar to ADRs, but trade on the International Order Book of the LSE.
What are main methods of issuing shares in the primary markets?
Placing (“Selective Marketing”)
- Firm sells all shares to issuing house who then sells them onto institutional investors.
Offers for Sale (“Fixed Price”)
- Firm sets the price of shares at a fixed price, from which the issuing house underwrites for a fee and sells to all investors.
Offers for Sale by Subscription
- Occurs when the larger organisations sell shares directly to the general public.
Intermediaries Offer
- Where several brokers issue to their clients.
Introduction
- Where new shares are listed, but no new capital is raised.
What are rights issues?
When a company wishes to raise additional finance through issuing new shares. Existing shareholders have the right to subscribe for new shares in proportion to their current holdings.
- New shares are issued at a subscription price (lower than existing share price).
- Rights can then be sold onto other investors.
- Rights may be underwritten.
- The share price falls after a rights issue. By how much, can be estimated as the theoretical ex-rights price (TERP).
How would you calculate the Nil Paid Right (the value of the newly acquired right/issue)?
Nil Paid Right = TERP - Subscription Price
TERP = Portfolio value (after the newly acquired issues) / No. of shares
What are scrip issues?
Occurs when new shares are issued for free to existing shareholders. As a result the share price falls after the issue (the new average share price is then known as the theoretical ex bonus price (TEBP)).
Why would a company use scrip issues?
- Reduce the share price if it is too high.
- Allow shareholders an alternative to a cash dividend .
What are share buybacks?
Occurs when a company wishes to repurchase shares from investors
Why might a company want to exercise a share buyback?
- To return surplus cash to shareholders.
- To increase gearing.
- Improve investor’s returns and ratios.
- Offset dilution of employee share plans.
Holding Period of Return:
Shows the realised return for any time period.
In order to work out the PV of projected future dividends, what must be assumed?
Constant growth in dividends (Gordon’s Growth Model).
What are the five factors affecting company dividend policies?
- Director’s confidence in future earnings growth (“signalling”).
- Need of investors.
- Stability of earnings.
- Legal restrictions on distributable earnings.
- Availability of cash.
Dividend Yield:
D/P
Dividend Cover:
EPS / DPS
Dividend Payout (Dividend):
DPS / EPS
Dividend Retention Rate:
1 - D
Earnings Yield:
EPS / P
Free Cash Flow (FCFF):
Represents what could be distributed to the providers of capital.
FCFF = (Revenues + Non-Cash Changes) - (Operating Costs + Taxes + Capital Exp.)
PV of FCFF = Enterprise Value (Debt + Equity)
What is residual income, and what does it mean if a company is generating positive residual income?
Residual income = Net income - Equity Charge
+ve = Company is generating more profits than Shareholder’s require.
What is a pre-emptive share issue?
Where existing shareholders receive the right to subscribe for shares pro rata to their existing shareholding in the company.
What do scrip, bonus and capitalisation issues all have in common?
They all relate to an issue of free shares pro rata to an existing shareholding in order to dilute the share price.
