Equity Securities Flashcards
In which of the following situations may a shareholder typically purchase fractional shares?
a. Buying a stock on the floor of the NYSE
b. Buying an ETF on NASDAQ
c. Buying a mutual fund
d. All of the above
c. Buying a Mutual Fund
Trades on a physical exchange or NASDAQ are executed in whole shares. Many people buy round lots (100 shares), but a client could just as easily purchase 99 or 101 shares. Mutual funds can and do issue fractional shares. (1-8)
Rank the following investments in their order of safety from highest to lowest.
I. Common stock of Henco Industries
II. A Henco Industries 5% senior debt instrument that is currently in default
III. Preferred stock of Henco Industries
IV. A Henco industries subordinated debenture that is current on all debt service payments
a. I, II, III, IV b. I, III, IV, II c. II, IV, III, I d. IV, III, II, I
c. II, IV, III, I
This question is asking you to rank the investments from most senior (most safe) to most junior (least safe). Common stock is the most junior so that ranks fourth. Preferred stock is also equity so that ranks third. Subordinated debt is junior to senior debt, so those investments rank second. The senior debt is considered the safest, due to its payment priority status (even though the 5% senior bond is currently in default in this question) and it ranks first. If the company eventually goes out of business, the senior bondholders are paid off first, making this the safest investment choice. (1-8)
A company in which your client owns stock is about to make a rights offering. The client informs you that he does not plan on subscribing to the offer. You would tell the client that his proportionate ownership interest in the company would:
a. Decrease
b. Increase
c. Remain unchanged
d. Depend on the market value of the stock
a. Decrease
If an individual does not subscribe to additional stock in a rights offering, his proportionate ownership interest in the company will decrease. (1-28)
All of the following securities could be found in the portfolio of a money-market fund EXCEPT:
a. ADRs
b. BAs
c. T-bills
d. Commercial paper
a. ADRs
ADRs (American Depositary Receipts) are a convenient method of investing in the common stock of foreign companies. As an equity investment, it would not be held in the portfolio of a money-market fund. (1-17)
In evaluating common stock, which of the following is the most important?
a. Par value
b. Market value
c. Stated value
d. Discounted value
a. Par Value
Par value is an accounting term and bears no relation to the market value of a company. For traders and investors, the market value is the current price as determined by the forces of supply and demand. (1-8)
The common stock of ABC Corporation pays a high quarterly dividend when compared to other companies in its industry. Recently, its price has decreased but the dividend has remained the same. Which of the following statements is TRUE?
a. The current yield per share increased.
b. The current yield per share decreased.
c. The current yield per share remained the same.
d. The yield to maturity on the investment increased.
a. The current yield per share increased
If the price of a security decreases but its dividend remains the same, the current yield per share increases. For example, suppose a stock at $10 per share pays a $1 annual dividend (a yield of 10%). If the stock declines to $5 per share and the dividend remains at $1, the yield will now be 20% ($1 divided by $5). (1-16)
A customer submits an order to a broker-dealer for an unlisted security. The broker-dealer would execute this order:
a. On a futures market
b. In the OTC market
c. On a securities exchange
d. On a foreign exchange
b. in the OTC market
A listed security is one that is listed and traded on an exchange. An order for an unlisted security would be entered in the OTC (over-the-counter) market where primarily unlisted securities are traded. (Welcome-4)
An investor buys 200 shares of TDX at $20 per share. TDX declares a 10% stock dividend. The investor’s cost basis per share for tax purposes would be:
a. $18.00
b. $18.18
c. $22.00
d. $40.00
b. $18.18
An investor’s cost basis must be adjusted downward upon receiving additional shares when a stock dividend is paid. In this example, the investor receives 20 additional shares (10% x 200). The investor’s new cost basis per share would be found by dividing the initial cost of $4,000 by the total number of shares now owned (220). This equals a cost basis per share of $18.18 (1-9)
Which of the following statements is FALSE regarding the characteristics of options and warrants?
a. Warrants are created by the corporation whose stock underlies the instrument; options are created by contract between an option buyer and an option writer.
b. Both options and warrants can expire worthless if they are not exercised.
c. If options are exercised, a set price must be paid for the underlying security; if warrants are exercised, the securities are received at no additional cost.
d. Both options and warrants can be bought and sold in the secondary market.
c. If options are exercised, a set price must be paid for the underlying security; if warrants are exercised, the securities are received at no additional cost.
Both options and warrants have a strike price – if exercised, the transactions for the underlying security will occur at that set price. It is in the case of convertible bonds or preferred stock that investors can convert the security into the underlying stock with no additional payment of money. All other statements are true. (1-28, 1-29, 1-30)
While examining a research report, you read that ABC Corporation’s capitalization is highly leveraged. This means ABC has raised most of its capital by:
a. Incurring debt in the form of long-term bank loans and long-term bonds
b. Issuing equity securities in the form of common stock
c. Issuing convertible preferred stock
d. All of the above
a. Incurring debt in the form of long-term bank loans and long-term bonds
Corporations with highly leveraged capitalizations have raised most of their money by incurring debt in the form of long-term bank loans and long-term bonds. (1-7)
A corporation may choose to pay its shareholders with cash dividends, stock dividends, or stock splits. Which of the following statements concerning the tax status of these events is the most accurate?
a. Only the cash dividends are taxable, and the stock split and stock dividends are irrelevant from a tax standpoint.
b. Only the cash dividends and stock dividends are taxable.
c. All three are taxable.
d. While only the cash dividend is taxable, stock splits and stock dividends cause the client to make an adjustment in her cost basis.
d. While only the cash dividend is taxable, stock splits and stock dividends cause the client to make an adjustment in her cost basis.
Only cash dividends are taxable at the time of distribution. The payment of a stock dividend or a stock split simply increases the number of shares held by each shareholder. Since the stock’s price will fall in the market, the IRS does not consider any taxes to be due. Shareholders must, however, adjust their cost basis. For example, if a client owned 100 shares that she bought at $80 ($8,000 total) and the stock splits 2-for-1, she now owns 200 shares with a cost basis of $40 per share. Her $8,000 investment has now been spread over her 200 shares. (200 x $40 = $8,000.) (1-9)
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XYZ Corporation has just announced that its quarterly earnings will be a bit below market expectations. Which of the following securities issued by XYZ will be most affected by this news?
a. Common stock
b. Preferred stock
c. Commercial paper
d. Long-term debentures
a. Common stock
The value of a company’s common stock is generally most affected by news connected to the performance of the company’s business. (1-18)
XYZ Corporation has announced that it will be issuing warrants. This is most likely being done in order to:
a. Replace outstanding common shares
b. Reduce the interest rate on an issue of debentures
c. Compensate the underwriting syndicate
d. Reduce the issue price of its securities
b. Reduce the interest rate on an issue of debentures
Debentures may be issued with warrants attached. Since warrants sweeten the deal, the corporation should be able to pay a lower interest rate on the debentures than it would have otherwise paid. Debentures are unsecured debt obligations. (1-28, 2-19)
A method of voting that gives larger substantial stockholders a greater degree of voting power over the smaller, less substantial stockholders would be:
a. Statutory voting
b. Cumulative voting
c. Voting by proxy
d. Special majority voting
a. Statutory voting
A method of voting which gives larger, more substantial stockholders a greater degree of voting power over smaller, less substantial stockholders is called statutory voting. Under statutory voting, each stockholder has one vote per share, per election. For example, if a corporation is electing three directors and a shareholder owns 100 shares, that shareholder could cast 100 votes in each election.
Cumulative voting permits shareholders to concentrate their votes for one favored candidate. For example, if a corporation is electing three directors and a shareholder owns 100 shares, that shareholder could cast 300 votes for one director potentially having a larger influence on that one election. (1-10, 1-11)
Outstanding Stock
calculation is….
Corporation’s Issued Stock - Treasury Stock (stock repurchased) = Outstanding Stock
Stock buyback does not pay dividends.
