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CSI Global Education Inc. Investment Products CHAPTER 8:  Equity Securities:  Common and Preferred Shares
Chapter Highlights <ul><li>The purchase of common or preferred shares represents an ‘ownership’ stake in the company. </li...
Common Shares <ul><li>Why do investors purchase common shares?  </li></ul><ul><li>What are some of the main reasons for se...
Common Share Rights & Advantages <ul><li>Potential for capital appreciation </li></ul><ul><li>The right to dividends </li>...
Dividends <ul><li>Not a contractual obligation until announced </li></ul><ul><li>Record Date </li></ul><ul><li>– recorded ...
Dividends <ul><li>Regular Dividends </li></ul><ul><li>payment of the dividend is maintained, barring changes to the firm’s...
Dividends <ul><li>DRIP (Dividend Reinvestment Plan) </li></ul><ul><ul><li>dividends are used to purchase additional stock ...
Restricted Shares <ul><li>Shares which have the right to participate to an unlimited degree in the earnings of a company a...
Restricted Shares  (continued) <ul><li>Non-voting  – shares that are not voting, except perhaps in certain limited circums...
Stock Splits & Consolidations <ul><li>Stock Split </li></ul><ul><li>To reduce price to a popular trading range. </li></ul>...
Stock Splits & Consolidations <ul><li>Consolidation or Reverse Split  </li></ul><ul><li>To raise market price & improve a ...
Stock Quote High – 52 week high of $12.55 per share Low –  52 week low of $9.25 per share BEC –  Name of the company Div. ...
Preferred Shares <ul><li>Why are they called Preferred Shares? </li></ul><ul><li>Dividends must be paid before common shar...
Why Issue Preferred Shares? <ul><li>Over Debt </li></ul><ul><li>No “contractual obligations” to pay dividends </li></ul><u...
Why Preferreds as an Investment? <ul><li>Cash flows – tax advantaged dividends  </li></ul><ul><li>Preference in dividends ...
Preferred Share Features <ul><li>Par value </li></ul><ul><li>Maturity Date  no maturity date </li></ul><ul><li>Voting Rig...
Types of Preferreds <ul><li>Retractable </li></ul><ul><li>creates a “maturity” date </li></ul><ul><li>investor can force c...
Preferred Features – Convertibles <ul><li>Advantages </li></ul><ul><li>potential capital gain on the common </li></ul><ul>...
Preferred Features – Retractables <ul><li>Advantages </li></ul><ul><li>retraction date </li></ul><ul><li>desirable as mark...
Preferred Features – Variable <ul><li>Advantages </li></ul><ul><li>protection against interest rate increases </li></ul><u...
Preferred Features – Foreign Pay <ul><li>Advantages </li></ul><ul><li>if strong currency, foreign exchange gains </li></ul...
Other Types of Preferreds <ul><li>COPrS  (Canadian Originated Preferred Securities) </li></ul><ul><li>Preferreds with warr...
Canadian Originated Preferred Securities <ul><li>COPrS are long term (49 years) junior subordinate fixed income instrument...
Other Types of Preferreds <ul><li>Deferred Shares: </li></ul><ul><li>Pays no dividend until a future maturity date.  </li>...
Other Types of Preferreds <ul><li>Split Shares: </li></ul><ul><li>Share that have two components – equity dividend share a...
Convertible Securities Exercise <ul><li>A $25 par value preferred share pays $2.50 in dividends and can be converted into ...
Convertible Securities Exercise <ul><li>What is the  conversion value  of the preferreds?  </li></ul><ul><li>2 shares at $...
Convertible Securities Exercise <ul><li>If the common share price rises to $15, and interest rates do not change, what is ...
Convertible Securities Exercise <ul><li>With the common at $15 and the preferreds at $32, what is the conversion cost prem...
Convertible Securities Exercise <ul><li>If the dividend yield on the common shares is 5% and 7.8% on the preferreds, what ...
Convertible Securities <ul><li>Rule: </li></ul><ul><li>“Convertible securities trade at the higher of either their convers...
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Csc3 Inv Products Ch 8

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Csc3 Inv Products Ch 8

  1. 1. CSI Global Education Inc. Investment Products CHAPTER 8: Equity Securities: Common and Preferred Shares
  2. 2. Chapter Highlights <ul><li>The purchase of common or preferred shares represents an ‘ownership’ stake in the company. </li></ul><ul><li>The return on the investment is tied to how well the company does. </li></ul><ul><li>With an investment in a corporate bond, volatility in interest rates can have a big impact on the value of the investment. </li></ul><ul><li>However, as a ‘creditor’ of the company bondholders are given first priority in the event of bankruptcy. </li></ul>
  3. 3. Common Shares <ul><li>Why do investors purchase common shares? </li></ul><ul><li>What are some of the main reasons for selecting this type of investment? </li></ul>
  4. 4. Common Share Rights & Advantages <ul><li>Potential for capital appreciation </li></ul><ul><li>The right to dividends </li></ul><ul><li>Favourable tax treatment for dividends and capital gains </li></ul><ul><li>Voting privileges </li></ul><ul><li>Limited liability </li></ul><ul><li>Marketability </li></ul>
  5. 5. Dividends <ul><li>Not a contractual obligation until announced </li></ul><ul><li>Record Date </li></ul><ul><li>– recorded shareholders on this date receive the dividend </li></ul><ul><li>Cum Dividend </li></ul><ul><li>– if buy stock will receive dividend </li></ul><ul><li>– up to 3 rd business day before record date </li></ul><ul><li>Ex Dividend </li></ul><ul><li>– if buy stock will not receive dividend </li></ul><ul><li>– 2 nd business day before record date </li></ul>
  6. 6. Dividends <ul><li>Regular Dividends </li></ul><ul><li>payment of the dividend is maintained, barring changes to the firm’s finances/operations </li></ul><ul><li>Extra Dividends </li></ul><ul><li>a bonus paid in addition to the regular dividend </li></ul><ul><li>does not imply this extra payment will be made regularly </li></ul><ul><li>Stock Dividends </li></ul><ul><li>in the form of additional stock rather than cash </li></ul><ul><li>typically paid by rapidly growing companies </li></ul><ul><li>treated as regular dividends for tax purposes </li></ul>
  7. 7. Dividends <ul><li>DRIP (Dividend Reinvestment Plan) </li></ul><ul><ul><li>dividends are used to purchase additional stock in the company and not paid as cash </li></ul></ul><ul><ul><li>taxable same as cash dividend </li></ul></ul><ul><ul><li>shareholders benefit by saving on commission to purchase the underlying stock </li></ul></ul><ul><ul><li>benefit from dollar cost averaging </li></ul></ul>
  8. 8. Restricted Shares <ul><li>Shares which have the right to participate to an unlimited degree in the earnings of a company and in its assets on liquidation, but do not have full voting rights. </li></ul><ul><li>There are three categories of restricted or special shares: </li></ul><ul><li>Non-voting </li></ul><ul><li>Subordinate voting </li></ul><ul><li>Restricted voting </li></ul><ul><li>Can you describe how they differ? </li></ul>
  9. 9. Restricted Shares (continued) <ul><li>Non-voting – shares that are not voting, except perhaps in certain limited circumstances. </li></ul><ul><li>Subordinate voting – shares which carry a right to vote, where there is another class of shares outstanding that carry a greater voting right on a per share basis. </li></ul><ul><li>Restricted voting – shares which carry a right to vote, subject to a limit or restriction on the number or percentage of shares that may be voted by a person, company or group. </li></ul>
  10. 10. Stock Splits & Consolidations <ul><li>Stock Split </li></ul><ul><li>To reduce price to a popular trading range. </li></ul><ul><li>Investor owns 100 shares with a current share price of $40. </li></ul><ul><li>Company announces a 2:1 split. </li></ul><ul><ul><li>2 new shares for every 1 old share </li></ul></ul><ul><ul><li>investor now holds 200 shares </li></ul></ul><ul><ul><li>price adjusted to $20 a share </li></ul></ul><ul><li>Impact on the investor’s proportionate ownership? </li></ul>
  11. 11. Stock Splits & Consolidations <ul><li>Consolidation or Reverse Split </li></ul><ul><li>To raise market price & improve a company’s ability to refinance </li></ul><ul><li>1:10 reverse split when price is 40¢ </li></ul><ul><li>Investor owns 1,000 shares </li></ul><ul><ul><li>1 new share for every 10 old shares </li></ul></ul><ul><ul><li>now hold only 100 shares </li></ul></ul><ul><ul><li>price adjusted to $4 </li></ul></ul><ul><li>Impact on investor’s proportionate ownership? </li></ul>
  12. 12. Stock Quote High – 52 week high of $12.55 per share Low – 52 week low of $9.25 per share BEC – Name of the company Div. – Paid $0.50 in dividends in last 52 weeks High – Day high of $10.65 per share Low – Day low of $10.25 Closed – Last trade was made at $10.35 Change – The closing price was $0.50 higher than the previous trading day’s closing trade price Volume – 6,000 common shares traded that day
  13. 13. Preferred Shares <ul><li>Why are they called Preferred Shares? </li></ul><ul><li>Dividends must be paid before common share dividends. </li></ul><ul><li>In cases of business failure, preferreds rank ahead of common shareholders. </li></ul>
  14. 14. Why Issue Preferred Shares? <ul><li>Over Debt </li></ul><ul><li>No “contractual obligations” to pay dividends </li></ul><ul><li>No maturity date </li></ul><ul><li>Greater flexibility for company </li></ul><ul><li>Over Common </li></ul><ul><li>Preferred shareholders are only entitled to a “fixed” return (no dilution of earnings) </li></ul><ul><li>No dilution of control – most are non-voting </li></ul>
  15. 15. Why Preferreds as an Investment? <ul><li>Cash flows – tax advantaged dividends </li></ul><ul><li>Preference in dividends and assets on wind-ups </li></ul><ul><li>Dangers </li></ul><ul><li>Purchasing power risk </li></ul><ul><li>Increases in interest rates </li></ul><ul><li>Dividends could be passed over </li></ul><ul><li>The company could fail </li></ul>
  16. 16. Preferred Share Features <ul><li>Par value </li></ul><ul><li>Maturity Date  no maturity date </li></ul><ul><li>Voting Rights  non-voting if dividends paid on schedule </li></ul><ul><li>Cumulative </li></ul><ul><li>– unpaid dividends accumulate in arrears </li></ul><ul><li>– preferred dividend arrears must be paid </li></ul><ul><li>– before common dividends paid </li></ul><ul><li>Redeemable/Call Feature </li></ul><ul><li>Sinking/Purchase Fund </li></ul>
  17. 17. Types of Preferreds <ul><li>Retractable </li></ul><ul><li>creates a “maturity” date </li></ul><ul><li>investor can force company to buy back at a specified time & price </li></ul><ul><li>Convertible </li></ul><ul><li>right to convert to common shares at specified time & price </li></ul><ul><li>Variable Rate </li></ul><ul><li>dividend fluctuates with changes in interest rates </li></ul><ul><li>Foreign Pay </li></ul><ul><li>dividend payable in foreign currency </li></ul>
  18. 18. Preferred Features – Convertibles <ul><li>Advantages </li></ul><ul><li>potential capital gain on the common </li></ul><ul><li>security of preferred </li></ul><ul><li>higher yield than common </li></ul><ul><li>Disadvantages </li></ul><ul><li>lower yield than straight preferred </li></ul><ul><li>price volatility if “selling off the common </li></ul>
  19. 19. Preferred Features – Retractables <ul><li>Advantages </li></ul><ul><li>retraction date </li></ul><ul><li>desirable as market rates rise (can reinvest proceeds at a higher rate) </li></ul><ul><li>price less volatile as approach retraction date </li></ul><ul><li>Disadvantages </li></ul><ul><li>retraction privilege expires </li></ul>
  20. 20. Preferred Features – Variable <ul><li>Advantages </li></ul><ul><li>protection against interest rate increases </li></ul><ul><li>price less volatile </li></ul><ul><li>Disadvantages </li></ul><ul><li>dividends will decrease if interest rates fall </li></ul>
  21. 21. Preferred Features – Foreign Pay <ul><li>Advantages </li></ul><ul><li>if strong currency, foreign exchange gains </li></ul><ul><li>possibly, receive income in currency of residence </li></ul><ul><li>Disadvantages </li></ul><ul><li>foreign exchange risk if currency value declines </li></ul>
  22. 22. Other Types of Preferreds <ul><li>COPrS (Canadian Originated Preferred Securities) </li></ul><ul><li>Preferreds with warrants </li></ul><ul><li>Deferred preferreds </li></ul><ul><li>Split shares </li></ul><ul><li>Participating preferreds </li></ul>
  23. 23. Canadian Originated Preferred Securities <ul><li>COPrS are long term (49 years) junior subordinate fixed income instruments </li></ul><ul><li>Quarterly distributions treated as interest for tax purposes </li></ul><ul><li>Trade “cum dividend” – i.e. accrued interest is paid out not accumulated </li></ul><ul><li>Traded on exchanges </li></ul><ul><li>Other: </li></ul><ul><li>Can defer payments up to 5 years </li></ul><ul><li>Shows up as equity on the balance sheet </li></ul><ul><li>Non-callable for first 5 years </li></ul>
  24. 24. Other Types of Preferreds <ul><li>Deferred Shares: </li></ul><ul><li>Pays no dividend until a future maturity date. </li></ul><ul><li>Dividends compound without having to pay annual taxes. </li></ul><ul><li>The ‘dividend premium’ is not eligible for the dividend tax credit. </li></ul><ul><li>At maturity the accrued dividends are treated as interest income. </li></ul><ul><li>If sold prior, it is treated as a capital gain (or loss). </li></ul>
  25. 25. Other Types of Preferreds <ul><li>Split Shares: </li></ul><ul><li>Share that have two components – equity dividend share and capital share. </li></ul><ul><li>Equity shares trade on yields but may share in dividends. </li></ul><ul><li>The maturity value of both are determined by the value of the underlying stock. </li></ul>
  26. 26. Convertible Securities Exercise <ul><li>A $25 par value preferred share pays $2.50 in dividends and can be converted into 2 common shares. </li></ul><ul><li>Interest rates in the market for similar risk securities have a 9% yield. </li></ul><ul><li>The common currently trades at $10 a share, while the preferreds trade at $32 a share. </li></ul>
  27. 27. Convertible Securities Exercise <ul><li>What is the conversion value of the preferreds? </li></ul><ul><li>2 shares at $10 a share = $20 </li></ul><ul><li>This is the value of the common stock that the preferreds can be converted into </li></ul>
  28. 28. Convertible Securities Exercise <ul><li>If the common share price rises to $15, and interest rates do not change, what is the conversion value? Will this impact the ‘pure’ value of the preferreds? </li></ul><ul><li>Conversion value </li></ul><ul><li>= 2 shares × $15 = $30 </li></ul>
  29. 29. Convertible Securities Exercise <ul><li>With the common at $15 and the preferreds at $32, what is the conversion cost premium? </li></ul><ul><li>$32 – (2 shares × $15) = $2 </li></ul><ul><li>Or $2/$30 = .06667 (6.67%) </li></ul><ul><li>The premium reflects the fact that the preferreds currently sell above the conversion value of the common. </li></ul>
  30. 30. Convertible Securities Exercise <ul><li>If the dividend yield on the common shares is 5% and 7.8% on the preferreds, what is the payback period? </li></ul><ul><li>Pay back premium = 6.67/(7.8 – 5) = 2.38 years </li></ul>
  31. 31. Convertible Securities <ul><li>Rule: </li></ul><ul><li>“Convertible securities trade at the higher of either their conversion value or their pure investment value.” </li></ul>

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