Unit 1: Equity Securities

Question 1

Par Value is a _____value

Answer 1

Arbitrary

Question 2

Current liquidation of a share is known as _____ value

Answer 2

Book Value

Question 3

Supply and Demand Value is known as ______ value

Answer 3

Market Value

Question 4

_____ value is the most meaningful and familiar to the typical investor

Answer 4

Market Value

Question 5

______ vote on stock splits, board members, and issuance of additional equity-related securities like common stock, preferred stock and convertible securities.

Answer 5

Shareholders

Question 6

Shareholders do not vote on ________ related matters

Answer 6

Dividend related matters

Question 7

_____ dividends are more likely to be paid by companies that wish to reinvest earnings for research and development.

Answer 7

Stock dividends

Question 8

______ dividends are the least common form of dividend payment

Answer 8

Property dividends

Question 9

Which type of preferred stock typically has the highest stated rate of dividend, all other factors being equal? And why?

Answer 9

Callable preferred; when the stock is called, dividend payments are no longer made. To compensate for that possibility, the issuer pays a higher dividend.

Question 10

Of straight and cumulative preferred, which would you expect to have the higher stated rate? And why?

Answer 10

Straight preferred; cumulative preferred is safer, and there is always a risk/reward trade-off. Because straight preferred has no special features, it will pay a higher stated rate of dividend.

Question 11

What is the formula for divided yield?

Answer 11

Dividend Yield = Annual Dividend / Current Market Value

Question 12

In a stock split, ______value changes, as does the _______ _______ of a stock.

Answer 12

Par Value Changes

as does the Market Value of the stock

Question 13

What does the customer receive after a stock split?

Answer 13

Customer receives the additional shares direct from a transfer agent; receives a sticker to put on the certificate to change its par value

Question 14

What dividend dates are determined by the board of directors?

Answer 14

Declaration
Record
Payment

Question 15

Who determines the ex-date of a dividend payment?

Answer 15

FINRA or the exchange

Question 16

What are the characteristics of REITs

• Not a _________
• Not an _________
• Pass through _____, not ____
• 75% of total investment assets in_________
• 75% of gross income from _______ or _______ interest
• Must distribute ______% or more of income to shareholders to avoid taxation as a corporation
• Trade on _____ or _____
• Dividends received from REITs are ____________

Answer 16

• Not a limited partnership
• Not an investment company
• Pass through income, not losses
• 75% of total investment assets in real estate
• 75% of gross income from rents or mortgage interest
• Must distribute 90% or more of income to shareholders to avoid taxation as a corporation
• Trade on exchanges or OTC
• Dividends received from REITs are taxed as ordinary income

Question 17

U.S. securities that facilitate the trading of foreign stocks in U.S. markets.

Answer 17

ADRs (American Depositary Receipts)

Question 18

Characteristics of ADRs:

• ________ security
• bought and sold in the U.S. securities markets like ______
• Generally ADRs do not have __________
• __________ risk
• __________ are declared in the foreign currency but are payable in U.S. dollars lending to currency risk (dividends are payable in U.S. dollars, declared in the foreign currency, payable in U.S.)

Answer 18

• negotiable security
• bought and sold in the U.S. securities markets like stock
• Generally ADRs do not have voting rights
• Currency risk
• Dividends are declared in the foreign currency but are payable in U.S. dollars lending to currency risk (dividends are payable in U.S. dollars, declared in the foreign currency, payable in U.S.)

Question 19

The most junior security

Answer 19

Common Stock

Question 20

Types of common stock

Answer 20

Authorized, Issued, Outstanding, Treasury

Question 21

Common Stock Values

Answer 21

Par Value, Book Value and Market Value

Question 22

An investor has the right to maintain a percentage interest in the company. This is known as ________ rights

Answer 22

Preemptive Rights

Question 23

6 Types of Preferred Stock

Answer 23

1) Straight/Noncumulative
2) Cumulative - accumulate in arrears
3) Participating preferred - receive the stated preferred plus additional common dividends
4) Convertible preferred
5) Callable Preferred
6) Adjustable-rate preferred stock

Question 24

Very similar to bonds in that it provides a steady income; non-voting; pay stead dividend; priority over common

Answer 24

Preferred Stock

Question 25

A taxable payment declared by a company’s directors and paid to shareholders out of the company’s retained earnings.

Answer 25

Dividends

Question 26

A security that gives the holders the opportunity to purchase common stock

Answer 26

Warrants

Question 27

ABC Company has authorized 1 million shares of common stock. It issued 800,000 shares one year ago. It then purchased 200,000 shares for its treasury. How many shares of ABC stock are outstanding?

Answer 27

Issues stock – treasury stock = outstanding stock

800,000 – 200,000 = 600,000

Question 28

ADRs are U.S. securities traded in U.S. markets in U.S. dollars, with dividends payable in _____________

Answer 28

U.S. Dollars

Question 29

Which of the following statements regarding ADRs are TRUE?
I. Dividends are payable in the underlying foreign currency.
II. Dividends are payable in U.S. dollars.
III. Holders have voting rights.
IV. Holders do not have voting rights.

Answer 29

Dividends are payable in U.S. dollars.

Holders do not have voting rights.

Question 30

A new bond issue will include warrants to

Answer 30

Increase the attractiveness of the issue to the public.

Question 31

By including warrants with debt issues, issuers increase the __________ of bonds

Answer 31

marketability of bonds

Question 32

The _____________ offer a long-term opportunity to buy the underlying stock at a fixed price.

Answer 32

Warrants

Question 33

If a stock is sold on November 30 when the record date for a dividend distribution is December 1, the seller is:

I. entitled to the dividend if the trade is done regular way
II. not entitled to the dividend if the trade is done regular way
III. entitled to the dividend if the trade is done with cash settlement
IV. not entitled to the dividend if the trade is done with cash settlement

Answer 33

The seller is:
I. entitled to the dividend if the trade is done regular way
IV. not entitled to the dividend if the trade is done with cash settlement

Anyone who owns the stock on the record date will receive the dividend. In a regular way trade (T + 2 settlement), the seller will still be owner of record on the record date of December 1st, as the trade will settle after the record date. In a cash settlement transaction, the buyer will be owner of record on record date.

Question 34

If a company splits its stock 3 for 2, how many additional shares will be issued to an investor who owns 200 shares?

Answer 34

The investor will receive an additional 100 shares from a 3 for 2 stock split. To calculate the additional shares as a result of a split, multiply the existing number of shares by the split rates (200 shares × 3/2 = 300 shares). Because the investor owned 200 shares, she will be issued 100 additional shares, bringing ownership to 300 shares.

Question 35

Your client owns 100 shares of CCC at $25. CCC declares a 25% stock dividend. After the ex-date, what will he own?

Answer 35

125 shares as $20 each

Stock dividends make the number of shares owned increase and the cost per share decrease. The overall value should remain unchanged before and after the adjustment: 125 shares × $20 = $2,500, and 100 shares × $25 = $2,500.

Question 36

If all other factors are equal, an investor would expect which type of preferred stock to pay the highest stated dividend rate?

A) Convertible.
B) Straight.
C) Cumulative.
D) Callable.

Answer 36

Callable

When the stock is called, dividend payments are no longer made. With callable preferred stock, to compensate for that possibility, the issuer pays a higher dividend than with straight preferred. Cumulative and convertible preferred have positive characteristics that would justify a lower fixed dividend than straight.

Question 37

ADRs are used to facilitate the

Answer 37

domestic trading of foreign securities.

Question 38

An ADR is a ___________ security that represents an ownership interest in a non-U.S. company. Because they trade in the U.S. marketplace, ADRs allow investors convenient access to _____________ securities.

Answer 38

Negotiable; foreign securities

Question 39

Investors should always be aware of taxes applicable to investments they own. Which of the following taxes might be associated with income derived from ADRs but not income from other investments?

A) Excise tax.
B) Federal income tax.
C) State income tax.
D) Foreign income tax.

Answer 39

D) Foreign Income Tax

In most countries, a withholding tax on dividends is taken at the source. To the holder of an ADR, this would be a foreign income tax. The foreign income tax paid may be taken as a credit against U.S. income taxes owed.

Question 40

A customer owns cumulative preferred stock (par value of $100) that pays an 8% dividend. The dividend has not been paid this year or for the 2 previous years. How much must the company pay the customer per share before it may pay dividends to the common stockholders?

Answer 40

$24

If the company is going to pay a common stock dividend, it must pay the preferred dividends first. A cumulative preferred stockholder must also receive all dividends in arrears. There is $16 due in back dividends in addition to $8 this year, for a total of $24.

Question 41

If a common stock is currently selling for $75 per share with a quarterly dividend of $.75, the current yield for the stock is:

Answer 41

4%

The current yield formula is annual dividend divided by current price. In this case, $3 ($.75 × 4) / $75 = 4%.

Question 42

Concerning a 5:4 stock split:

Since each shareholder will receive additional stock, the ________ ________ will remain the same.

Answer 42

proportional equity

Question 43

When compared to statutory voting, cumulative voting gives an advantage to:

Answer 43

Minority stockholders.

Cumulative voting allows shareholders to aggregate their votes and cast them as they please. For example, they could cast all of their votes for a single candidate. Cumulative voting makes it easier for a minority group of shareholders to gain representation on the board.

Question 44

If Flying Horse Corp. splits 5:4, the presplit $.40 par value of the common stock would now be adjusted to:

Answer 44

$.32

Stock splits will change the par value of the stock. To calculate the new value, multiply the original par by the inverse of the split: 4/5 × $.40 = $.32.

Question 45

ABC Corporation has declared a record date of Thursday, May 17, for its next quarterly cash dividend. When is the last day the investor may purchase the stock regular way and receive the dividend?

Answer 45

Tuesday, May 15

In order to receive a cash dividend, an investor must be owner of record as of the close of business on record date. Because regular way settlement is 2 business days, the customer must purchase the stock no later than Tuesday, May 15.

Question 46

________ date is set by the issuing corporation to determine which stockholders will receive a declared dividend.

Answer 46

Record

is set by the issuing corporation to determine which stockholders will receive a declared dividend.

Question 47

A company with 20 million shares outstanding paid $36 million in dividends. If the current market value of the company’s shares is $36, the current yield is

Answer 47

5%

The current yield formula is annual dividends per share divided by current market price. The dividends per share are $36 million / 20 million shares = $1.80 per share. Current yield is $1.80 / $36.00 = 5%.

Question 48

Stockholders’ preemptive rights include the right to:

Answer 48

maintain proportionate ownership interest in the corporation.

Preemptive rights allow stockholders to maintain their proportionate ownership when the corporation wants to issue more stock. For example, if a stockholder owns 5% of the outstanding stock and the corporation wants to issue more stock, the stockholder has the right to purchase 5% of the new shares.

Question 49

In a 3-for-2 stock split, an investor will:

have _______% more shares at __________ the price.

Answer 49

If a stock splits 3 for 2, an investor will receive an additional 50 shares for every 100 shares owned. The price will decline by one-third, but the total value of the position will stay the same. For example, if a shareholder owns 100 shares before the 3 for 2 split, the shareholder will have 150 shares after the split (3 / 2 × 100 = 150).

Question 50

When disseminating information about transactions of OTC equity securities, 1 share equals 1 round lot for stocks trading at or above:

Answer 50

$175 per share.

In instances where OTC stocks are trading at or above $175 per share, 1 share equals 1 round lot. In all other cases, similar to listed equity securities, 100 shares equals 1 round lot for OTC equity securities.

Question 51

Which of the following statements regarding the effects of a stock dividend is TRUE?
A) New capital is channeled to the company.
B) Net current assets are decreased.
C) Capital surplus is reduced.
D) The market value of the stock is decreased.

Answer 51

D) The market value of the stock is decreased.

A stock dividend results in an increased number of outstanding shares, each with a lower value per share. The total value of stock outstanding is unchanged.

Question 52

A REIT share is an ________ security that represents undivided ownership in a portfolio of real estate investments.

Answer 52

Equity Security

Question 53

GHI stock is at $10 par value and is selling in the market for $60 per share. If the current quarterly dividend is $1, the current yield is:

Answer 53

6.7%

Current yield is determined by dividing the annual dividend of $4 ($1 per quarter × 4 = $4) by the current stock price of $60 ($4 / $60 = 6.7%).

Question 54

The last day that stocks can be bought for cash and still receive the dividend is

Answer 54

The record date

A cash trade settles the same day. Stocks bought for cash on the record date will be entitled to the dividend.

Question 55

A 2-1 split does which of the following?
I. Increases the number of outstanding shares
II. Decreases the number of outstanding shares
III. Decreases par value per share
IV. Decreases retained earnings

Answer 55

I. Increases the number of outstanding shares
III. Decreases par value per share

After a 2-1 stock split, the number of outstanding shares doubles and the par value per share decreases by half. Retained earnings are not affected.

Question 56

The rate on an adjustable preferred stock may be indexed to the:
A) Consumer Price Index.
B) Treasury bill rate.
C) Dow Jones Industrial Average.
D) Producer Price Index.

Answer 56

B) Treasury bill rate.

The dividend on an adjustable rate preferred stock is tied to a particular interest rate, and the Treasury bill rate is a common benchmark.

Question 57

Who is responsible for ensuring that a corporation does not have more shares of stock outstanding than it has been authorized to issue?
A) Registrar.
B) FINRA.
C) SEC.
D) Transfer agent.

Answer 57

A) Registrar.

The registrar is responsible for keeping careful account of the number of shares a company is authorized to issue and ensuring that the number outstanding does not exceed this number.

Question 58

GC, Inc., is proposing an additional public offering of common stock. It conducts a rights offering to its current shareholders at $55 per share, plus 5 rights. If the market price of GCI is $70 after the ex-rights date passes, what is the value of 1 right?

Answer 58

3.

Since the stock is selling ex (after ex-rights), the formula is ($70 − $55) / 5. ($70 − $55 = $15) ($15 / 5 = $3).

Question 59

ABC, Inc. will issue new stock through a rights offering. Terms of the offering are 10 rights plus $10 to purchase one new share of stock, with any fractional shares to be considered whole shares. ABC is currently trading at $13. If your customer owns 85 shares of ABC and wishes to subscribe to the new offering, how many shares can she purchase at the subscription price and how much money will be required?

Answer 59

9 shares; $90.

Owning 85 shares, the customer would receive 85 rights allowing the purchase of 8.5 shares. Because fractional shares are rounded up, a total of 9 shares could be purchased. Each share requires an additional $10 to purchase, therefore if the customer wants to buy the 9 shares the customer must pay a total of $90.

Question 60

Cash dividends from REITs are:

Answer 60

taxed as ordinary income.

Question 61

______ or stock, creates an ownership relationship with the issuing company

Answer 61

Equity

Question 62

______ is perpetual – meaning that there is no maturity date for the shares and the investor may own the shares until he decides to sell them.

Answer 62

Equity

Question 63

A _____ right is a certificate representing a short-term (typically 30-45 days) privilege to buy additional shares of a corporation

Answer 63

subscription

Question 64

Which of the following statements regarding real estate investment trusts are TRUE?
I) Hybrid REITs invest in both commercial property and residential property.
II) Some REITs hold no real property but hold mortgages on commercial property instead.
III) All dividend disbursements made by REITs will be recognized as qualified dividends by the IRS.
IV) Dividends are taxed at the investor’s ordinary income tax rate.

Answer 64

II) Some REITs hold no real property but hold mortgages on commercial property instead.
IV) Dividends are taxed at the investor’s ordinary income tax rate.

Equity REITs can hold residential and commercial property, mortgage REITs hold mortgages on property, and hybrid REITs do both. Dividend disbursements made by the trusts are not recognized as qualified dividends and, therefore, will be taxable to the investor at their ordinary income tax rate.

Reference: 1.9.1 in the License Exam Manual

Question 65

In a portfolio containing common stock, preferred stock, convertible preferred stock, and ADRs, changes in interest rates would most likely affect the market price of the

a) Common Stock
b) Preferred Stock
c) ADRs
d) Convertible Preferred Stock

Answer 65

b) Preferred Stock

Preferred stock has the closest characteristics to bonds and would be most affected by a change in interest rates. Convertible preferred stock would also be affected by price changes in the underlying common stock.

Reference: 1.3.1.1 in the License Exam Manual

Question 66

A subscription right or privilege is best defined as

A) the right of current shareholders to maintain their fractional ownership of a company by buying a proportional number of shares of any future issue of common stock

B) the right of shareholders to buy any future issue of the company’s preferred stock prior to submitted public orders

C) the right of shareholders to maintain their percentage ownership of a company by selling a proportional number of warrants

D) the right of shareholders to purchase company shares at a specific price within the next 5 years

Answer 66

A) the right of current shareholders to maintain their fractional ownership of a company by buying a proportional number of shares of any future issue of common stock

Current shareholders may maintain their percentage of ownership of a company by buying a proportional number of shares of any future issue of common stock. Purchasing shares prior to public orders is also known as a “preemptive right” and is often available only if made explicit in a company’s corporate charter.

Reference: 1.7.1.2 in the License Exam Manual

Question 67

Common stockholders of a publicly traded corporation have which of the following rights and privileges?

I) Residual claim to assets at dissolution
II) Right to a vote for stock dividends to be paid
III) Right to receive an audited financial report on an annual basis
IV) Claim against dividends in default

Answer 67

I) Residual claim to assets at dissolution
III) Right to receive an audited financial report on an annual basis

Common stockholders of publicly traded companies have a residual claim to assets of a corporation at dissolution and are entitled to receive an annual report containing audited financial statements. Stockholders never get to vote on dividends.

Reference: 1.2.3 in the License Exam Manual

Question 68

ABC Corporation declares a 5-4 stock split. On the ex-date, the price of ABC common will be reduced by

a) 0.5
b) 0.2
c) 0.8
d) 0.25

Answer 68

b) 0.2

As a result of a stock split, an investor will have more shares at less value per share, but overall value of the investment will remain the same. For example: an investor owns 100 shares at $50 per share worth $5,000. After a 5-4 split, the investor will have 125 shares (100 × 5/4); the total ownership interest of $5,000 is divided by the new number of shares to determine the per share price of $40. The decrease of 50 to 40 is a 20% reduction. Generally, the percent decrease in price will always be less than the percent increase in the number of shares. The percent increase in shares in a 5-4 split is 25%.

Reference: 1.2.4.1 in the License Exam Manual