Lecture 7-Equity Flashcards
What are shares?
Part ownership of a company. Also called equity, common stock or ordinary shares
What is the secondary market in relation to shares?
-the market in which shares that have already been issued can be traded
What is a dividend?
Periodic cash distribution from the firm to the shareholders
What is the volume in relation to shares?
-Number of shares traded
Why is share valuation important?
Investors and Analysts
- For investment decisions, resource allocation
- Buy undervalued, sell overpriced stocks
- Management
- For investment decisions
- To understand the effects of their actions
- To aim for shareholder wealth maximisation
- To determine remuneration
What are the bid and ask prices in quoted share prices?
Bid Price – What you get when you sell
Ask Price – What you pay when you buy
What are share splits?
- Most share prices are between £1-£10 which helps liquidity
- Over time share prices can get very high
- For example Greggs did a 10 for 1 split, 1 old share for 10 new shares although there are no changes to investor wealth.
What is share consolidation?
When share prices go down
1 for 10 RBS announced 10 shares @ 20p each, became 1 share @200p
What are the shareholder rights?
Shareholders have a right to vote
One share one vote – most of the time!
At AGM - can elect directors
-Who then appoint other managers/employees
-As such shareholders control company
Can also vote on other issues, e.g.
Auditors
Executive pay
Mergers
-Rights to propertion of any assets left after all liabilities have been paid
What are preference shares?
Preference shares rank ahead of “ordinary” shares
- Usually pay a fixed dividend
- Must be paid, before ordinary dividend can be paid
- If missed, usually is carried forward
- Usually has a fixed liquidation value
- Usually have no/limited voting rights
Thus although from a legal perspective preference shares are equity
In practice they are much more like debt
What are the 3 approaches to valuing shares?
1.Accounting valuations
Net asset value (or Book value)
-Liquidation value
- Dividend model valuations
General dividend model
Gordon growth model - Relative valuation
P/E ratios
What is the net book value?
Based on balance sheet data
Provides estimate on the
balance sheet date
i.e. the financial year end date
Further from balance sheet date, less valid the values
What are the problems with net asset value?
-The historic cost convention
Accounts reflect cost in the past NOT value in the future
Depreciation methods
-The incomplete balance sheet
Doesn’t include value of skills of employees
Relationships with customers and suppliers
Value of brands, goodwill (intangibles)
What is the liquidation value?
Net proceeds that would be realized by selling all the firm’s assets and paying off all creditors
-Values for assets can be more accurate than book values
Ignores value as going concern and growth potential
Can still ignore or undervalue intangible assets
What are the problems with the DGM?
Very sensitive to changes in growth rates, could change the share prices drastically
