Equity And Debt Securities

Question 1

What is a security

Answer 1

A security is any investment product that can be exchanged for value and involves risk. In order for an investment to be considered a security, it must be readily transferable between two parties and the owner must be subject to the loss of some or all of their invested principal. If the product is not transferable or does not contain risk, then it is not a security.

Question 2

What is equity

Answer 2

Equity or stock creates an ownership relationship with the issuing company. Once an investor has purchased stock in a corporation, he or she becomes an owner of that corporation. The corporation sells off pieces of itself to investors in the form of shares in an effort to raise working capital.

Question 3

What is debt

Answer 3

A bond, or any other debt instrument, is actually a loan to the issuer. By purchasing a bond, the investor has made a loan to the corporation and becomes a creditor of the issuing company.

Question 4

Does debt have a expiration date

Answer 4

Debt instruments, unlike their equity counterparts, have a time frame or maturity date associated with them.

Question 5

What is capitalization

Answer 5

The term capitalization refers to the sources and makeup of the company’s financial picture.

Question 6

What is the balance sheet equation

Answer 6

assets − liabilities = net worth Assets

Question 7

What is an asset

Answer 7

Assets are everything that a company owns, including cash, securities, investments, inventory, property, and accounts receivable.

Question 8

What is a liability

Answer 8

Liabilities are everything that a company owes, including accounts payable and both long-and short-term debt, as well as any other obligations.

Question 9

What is authorized stock

Answer 9

Authorized stock is the maximum number of shares that a company may sell to the investing public in an effort to raise cash to meet the organization’s goals. The number of authorized shares is determined arbitrarily and is set at the time of incorporation.

Question 10

What is issued stock

Answer 10

Issued stock is stock that has been authorized for sale and has actually been sold to the investing public.

Question 11

What is treasury stock

Answer 11

Treasury stock is stock that has been sold to the investing public and that has subsequently been repurchased by the corporation. The corporation may elect to reissue the shares or it may retire the shares that it holds in treasury stock. Treasury stock does not receive dividends nor does it vote.

Question 12

Why do corporations repurchase stock

Answer 12

A corporation may elect to repurchase its own shares to: Maintain control of the company. Increase earnings per share. Fund employee stock purchase plans. Use shares to pay for a merger or acquisition.

Question 13

What is book value

Answer 13

The book value of a corporation is the theoretical liquidation value of the company. It is calculated by taking all of the company’s tangible assets and subtracting all of its liabilities. To determine the book value per share, divide the total book value by the total number of outstanding common shares.

Question 14

What is par value

Answer 14

Par value, in a discussion regarding common stock, is only important if you are an accountant looking at the balance sheet. For investors, it has no relationship to any measure of value that may otherwise be employed.

Question 15

What are the rights of common shareholder

Answer 15

Preemptive rights
Exercise rights
Voting rights

Question 16

What are preemptive rights

Answer 16

As a stockholder, an investor has the right to maintain a percentage interest in the company. Should the company wish to sell additional shares to raise new capital, it must first offer the new shares to existing shareholders. If the existing shareholders decide not to purchase the new shares, they may be offered to the general public.

Question 17

What is the difference between exercised, sold, and expired rights

Answer 17

Exercised The investor decides to purchase the additional shares and sends in the money as well as the rights to receive the additional shares. Sold The rights have value, and if the investor does not want to purchase the additional shares they may be sold to another investor who would like to purchase the shares.
Expire The rights will expire if no one wants to purchase the stock. This will only occur when the market price of the share has fallen below the subscription price of the right and the 45 days have elapsed.

Question 18

What are statuatory and compilation voting rights

Answer 18

The statutory method requires that the votes be distributed evenly among the candidates the investor wishes to vote for. The cumulative method allows the shareholder to cast all of their votes in favor of one candidate if they so choose. The cumulative method is said to favor smaller investors for this reason.

Question 19

What is preferred stock

Answer 19

Preferred stock is an equity security with a fixed-income component. Like a common stockholder, the preferred stockholder is an owner of the company. However, the preferred stockholder is investing in the stock for the fixed income that the preferred shares generate through their semiannual dividends. Preferred stock has a stated dividend rate, or a fixed rate, that the corporation must pay to its preferred shareholders.

Question 20

What s par value for preferred stock

Answer 20

Par Value Par value on preferred stock is very important because it is what the dividend is based on. Par value for preferred shares is $ 100. Companies generally express the dividend as a percentage of par value for preferred stock.

Question 21

What are the features of preferred stock

Answer 21

Payment of Dividends The dividend on preferred shares must be paid before any dividends are paid to common shareholders. This gives the preferred shareholder a priority claim on the corporation’s distribution of earnings. Distribution of Assets If a corporation liquidates or declares bankruptcy, the preferred shareholders are paid prior to any common shareholder, giving the preferred shareholders a higher claim on the corporation’s assets. Perpetual Preferred stock, unlike bonds, is perpetual, with no maturity date. Investors may hold shares for as long as they wish or until they are called in by the company under a call feature. Nonvoting Most preferred stock is nonvoting.

Question 22

Types of preferred stock

Answer 22

Straight/ Noncumulative Preferred Straight, or noncumulative, preferred stock has no additional features. The holder is entitled to the stated dividend rate and nothing else. If the corporation is unable to pay the dividend, it is not owed to the investor.
Cumulative Preferred A cumulative feature protects the investor in cases when a corporation is having financial difficulties and cannot pay the dividend. Dividends on cumulative preferred stock accumulate in arrears until the corporation is able to pay them. If the dividend on a cumulative preferred stock is missed, it is still owed to the holder. Dividends in arrears
Participating Preferred Holders of participating preferred stock are entitled to receive the stated preferred rate as well as additional common dividends. The holder of participating preferred stock receives the dividend payable to the common stockholders over and above the stated preferred dividend.
Convertible Preferred A convertible feature allows the preferred stockholder to
Callable Preferred A call feature is the only feature that benefits the company and not the investor. A call feature allows the corporation to call in or redeem the preferred shares at its discretion or after some period of time has expired. Most preferred stock that is callable cannot be called in the first few years after its issuance. This is known as call protection.

Question 23

What are the types of dividends

Answer 23

Cash dividend

Stock Dividend

Question 24

What are warrants

Answer 24

A warrant is a security that gives the holder the opportunity to purchase common stock. Like a right, the warrant has a subscription price; however, the subscription price is always above the current market value of the common stock when the warrant is originally issued.

Question 25

How do you get a warrant

Answer 25

Units Oftentimes companies will issue warrants to people who purchased their common stock during its initial public offering (IPO). A common share, which comes with a warrant attached to purchase an additional common share, is known as a unit. Attached to Bonds Many times companies will attach warrants to their bond offerings as a “sweetener” to help market the bond offering. The warrant to purchase the common stock makes the bond more attractive to the investor and may allow the company to issue the bonds with a lower coupon rate. Secondary Market Warrants will often trade in the secondary market just like the common stock. An investor who wishes to participate in the potential price appreciation of the common stock may elect to purchase the corporation’s warrant instead of its common shares.

Question 26

Rights vs warrants

Answer 26

Rights Warrants Up to 45 days Term Up to 10 years Below the market Subscription price Above the market May trade with or without common stock Trading May trade with or without common stock or bonds Issued to existing shareholders to ensure preemptive rights Who Offered as a sweetener to make securities more attractive

Question 27

What is an option

Answer 27

An option is a contract between two parties, the buyer and the seller, that determines the time and price at which a security may be bought or sold. The buyer of the option pays money, known as the option’s premium, to the seller. For this premium, the buyer obtains a right to buy or sell the security, depending on what type of option is involved in the transaction. The seller, because he or she received the premium from the buyer, now has an obligation to perform

Question 28

Calls vs puts

Answer 28

Calls A call option gives the buyer the right to buy, or to “call,” the security from the option seller at a specific price for a certain period of time. The sale of a call option obligates the seller to deliver or sell that security to the buyer at that specific price for a certain period of time. Puts A put option gives the buyer the right to sell, or to “put,” the security to the seller at a specific price for a certain period of time. The sale of a put option obligates the seller to buy the security from the buyer at that specific price for a certain period of time.

Question 29

Exercise price for options

Answer 29

Buyer Seller Owner Known as Writer Long Known as Short Rights Has Obligations Maximum speculative profit Objective Premium income Exercise Wants the option to Expire

Question 30

What factors influence options prices

Answer 30

The relationship of the underlying stock price to the option’s strike price. The amount of time to expiration. The volatility of the underlying stock. Supply and demand. Interest rates.

Question 31

What are intrinsic and time value of an option

Answer 31

An option’s total premium is composed of intrinsic value and time value. An option’s intrinsic value is equal to the amount the option is in the money. Time value is the amount by which an option’s premium exceeds its intrinsic value. In effect, the time value is the price an investor pays for the opportunity to exercise the option. An option that is out of the money has no intrinsic value; therefore, the entire premium consists of time value.

Question 32

What is an ADR

Answer 32

American depositary receipts (ADRs) facilitate the trading of foreign securities in the U.S. markets. An ADR is a receipt that represents the ownership of the foreign shares that are being held abroad in a branch of a United States bank. Each ADR represents ownership of between 1 and 10 shares of the foreign stock, and the holder of the ADR may request the delivery of the foreign shares. Holders of ADRs also have the right to vote and the right to receive dividends that the foreign corporation declares for payment to shareholders.

Question 33

What is a REIT

Answer 33

American depositary receipts (ADRs) facilitate the trading of foreign securities in the U.S. markets. An ADR is a receipt that represents the ownership of the foreign shares that are being held abroad in a branch of a United States bank. Each ADR represents ownership of between 1 and 10 shares of the foreign stock, and the holder of the ADR may request the delivery of the foreign shares. Holders of ADRs also have the right to vote and the right to receive dividends that the foreign corporation declares for payment to shareholders.