Tag Archives | common stock

Preemptive Subscription Rights

See Also:
Preferred Stocks
Initial Public Offering (IPO)
Stock Options Basics
Intrinsic Value – Stock Options
Insider Trading

Preemptive Subscription Rights Definition

Preemptive subscription rights give existing shareholders the opportunity to purchase new share offerings before they are available to the investing public. You can also call it preemption rights or subscription rights.

Basically, when a company decides to issue more shares of stock, current shareholders have the right to buy the new shares of common stock before the general public can buy the new shares of stock. The idea is to allow current shareholders to maintain their proportional ownership of company without experiencing value or control dilution caused by the new issue.

Preemptive rights often allow the existing shareholders to purchase shares of stock at a discount to the public offering price. Existing shareholders are allowed to purchase the new issue within a set window of opportunity, often two to four weeks. Preemptive rights also allow the existing shareholder to buy a set number of shares of the new issue. But this depends on how many shares the shareholder currently owns. Refer to the number of shares allowed to the shareholder relative to current holdings as the subscription ratio. The subscription ratio is stated in a document given to existing shareholders, called the subscription warrant.

Because the preemptive right often allows the shareholder to purchase the new issue at a discount, and because purchasing shares of the new issue allows the existing shareholder to maintain proportional ownership and voting power, it is usually in the shareholders best interest to make use of the preemptive right. They should also buy the maximum allowable shares of the new issue.

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Red Herring Definition

See Also:
Ten In-House Secrets for Reducing Your Company’s Legal Costs
Board of Directors
Benefits of an Advisory Board
How to Form an Advisory Board
Why is Intellectual Property Risk Everybody’s Problem

Red Herring Definition

The red herring definition, or preliminary prospectus, is a legal document that must be submitted to the SEC for approval prior to an initial public offering (IPO). It is prepared by the company that is planning to go public in conjunction with the investment bank syndicate that is underwriting the IPO.

Red Herring Document

Furthermore, the document includes details about the company. It includes an explanation of the company’s operations and competitive position as well as copies of its financial statements. The document also includes the details of the IPO, including the type of security (common stock, preferred stock, etc.) offered, the number of shares offered, and the anticipated share price.

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Preferred Stocks (Preferred Share)

Preferred Stocks (Preferred Share) Definition

Like common stock, shares of preferred stocks (preferred share) represent ownership of a public corporation. However, unlike common stock, preferred stock typically does not give the owner voting rights.

Preferred stock usually pays a dividend. But due to its preferred status, preferred stockholders will receive dividend payments before common stockholders. For example, if, for whatever reason, the company does not have enough cash to meet all of its dividend payment obligations, the common stockholders will not begin to receive dividends until after all of the preferred stockholders have received their dividends.

Likewise, if the company were to go out of business and liquidate its assets, preferred stockholders have seniority over common stock holders. Preferred stockholders have a higher ranking claim to the liquidated assets than common stockholders. Common stockholders will not have access to liquidated assets until all of the preferred stock holders have been paid off.

Preferred stock may have a convertible provision, allowing it to be exchanged for shares of common stock under certain specified circumstances.


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Preferred Stocks

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Preferred Stocks

See Also:
Company Valuation
Fixed Income Securities
Arrears
Subscription (Preemptive) Rights

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Common Stock Definition

See Also:
Intrinsic Value – Stock Options
Company Valuation
Basis Definition
Balance Sheet
Paid in Capital (APIC)
Capital Gains
American Depositary Receipts (ADRs)

Common Stock Definition

The common stock definition is shares of common stock represent ownership of a public or private corporation. Shares of common stock usually give the shareholder voting rights. Therefore, the shareholder can vote on matters of corporate policy and the selection of members of the board of directors. The more shares an investor owns, then the more influence that investor has on the company.

Shares of common stock typically trade on financial exchanges. Thus, their values fluctuate according to the company’s performance and the market’s perceptions of the company.

But if a company goes out of business and liquidates its assets, then the last ones to get their invested capital back are the common stockholders. Bondholders and preferred stock holders are reimbursed before common stockholders.

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Basis Definition

See Also:
Basis Points
Make or Buy Business Decision
Collateralized Debt Obligations
Carried Interests
Letter of Credit

Basis Definition

In accounting, the basis definition is the value of an asset for tax purposes. The basis of an asset is the cost of the asset reported to the Internal Revenue Service (IRS). It includes the original purchase price of the asset plus any acquisition expenses. The basis may increase by the value of any subsequent capital improvement in the asset. Or itt may decrease due to depreciation. Also, refer to basis as cost basis or tax basis.

The basis is also the amount used to calculate gains or losses if and when the asset is sold or scrapped.

Basis Examples

For example, if shares of common stock are purchased for $1,000 and sold three years later for $1,500, then the basis is still $1,000. As a result, the taxpayer would recordcapital gain of $500.

Likewise, if you purchase equipment for $1,000 with installation and shipping fees of $500, then the basis for that asset would be $1,500. If the equipment is depreciated down to $500 and then sell it for $300, then the taxpayer would record a loss of $200.

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Capital Structure Management

See Also:
Balance Sheet
Cost of Capital
Capital Asset Pricing Model
Capital Budgeting Methods
Net Present Value Method
Capital Expenditures
Organizational Structure

Capital Structure Management

A company’s capital structure refers to the combination of its various sources of funding. Most companies are funded by a mix of debt and equity, including some short-term debt, some long-term debt, a number of shares of common stock, and perhaps shares of preferred stock.

When determining a company’s cost of capital, weight the costs of each component of the capital structure in relation to the overall total amount. This calculates the company’s weighted average cost of capital (WACC). Then use the weighted average cost of capital to calculate the net present value (NPV) of capital budgeting for corporate projects. A lower WACC will yield a higher NPV, so achieving a lower WACC is always optimal. Refer to overseeing the capital structure as capital structure management.

Capital Structure Strategy

Under stable market conditions, a company can compute its optimal mix of capital. A company’s optimal mix of capital is the combination of sources of capital that yields the lowest weighted average cost of capital.

For example, if a company is financed by a combination of low-cost debt and higher-cost equity, then the optimal mix of capital would be some combination involving less of the higher-cost equity and more of the low-cost debt. In conclusion, you can employ capital structure policy and capital structure strategy to achieve the optimal capital mix.

Capital Structure – Optimal Mix Example

Let’s say, for example, a company could raise between 40% and 60% of its needed funds with debt costing 8%. It could raise up to 10% of its needed funds with preferred stock issuance that costs 7.8%. Then it can raise between 30% and 50% of its funds by issuing common stock equity at 12.33%. What capital structure policy should the company employ to achieve its optimal capital mix?

After analyzing the numbers, and due to certain limitations and restrictions outside the scope of this simple example, the company came up with three choices:

           Debt      Preferred Stock     Common Stock      WACC
Mix 1:      40%            10%                50%         10.145%
Mix 2:      59%            10%                31%          9.322%
Mix 3:      60%            10%                30%         11.679%

As you can see, the company would be better off choosing Mix 2, which has the lowest WACC: 9.322%.

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Arrears

See Also:
Dividend Payout Ratio
Dividends
Dividend Yield Analysis
Preferred Stocks (Preferred Share)
Define Payment Terms

Arrears Definition

Arrears is defined as an amount of a liability which is past due or has simply not been paid yet. There are generally two types of arrears concerning annuities and loans, and the second is in respect to preferred dividends.

Arrears Meaning

The majority of the time arrears accounting is concerned with preferred dividends as most companies try and make their payments when they are due with respect to a loan or annuity. They occur in dividends when a company issued preferred stock promising a certain percentage payment of the income every year. However, the company does not have to pay the amount that year. However, the amount is put in arrears account until the company does pay the amount. It could be years or maybe just next year, but the amount keeps accumulating until the arrears payment is made. It should also be noted that the company cannot pay common stock dividends until the arrears account has totally been reduced.

Example

Judy has bought $4,000 worth of preferred stock that pays a 10% dividend every year. The total amount of stock outstanding is $100,000. This means that the total dividend amount paid each year by the company is $10,000.

In the first year the company did not make a dividend payment. This means that the company would need to put $10,000 in the arrears account.

If in the next year the company made a payment of $12,000 it would mean that the entire $10,000 in arrears would be emptied, but would fill back up by $8,000 ((10,000 * 2) – 12,000) or the new amount in the arrears account. The payment to Judy would be in the amount of her percentage ownership of the preferred dividends, 4%, times the amount in the amount of dividends paid to date, which is $12,000. Therefore, Judy will have made $480 on her investment thus far.

If in the next year the company empties the arrears account and current payment by paying dividends of $18,000. Judy will have made $720 more with the payment. The new balance in arrears would be equal to zero.

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