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Chapter 11 Flashcards

1
Q

What is most common type of share capital

A

Ordinary shares

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2
Q

What does authorised share capital do

A

In theory, it acts as a ceiling on the amount of share capital the directors can issue

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3
Q

Initial payment in a fiscal year for a equity is called

A

Interim dividend

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4
Q

In advance of an ipo,the company usually works with IBs to advise on

A

Type of security to issue
Best price that can be expected
Number of shares to be issued
When to bring the ipo to market

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5
Q

What must also be provided for when doing ipo

A

Prospectus filed to sec containing risks and info about deal

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6
Q

Issues with ipo

A

Dilutes existing shareholders ownership

Risky as their is little history on what to base their share price off, new shares usually underpriced to increase attractiveness

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7
Q

Two types of secondary share offering

A

Seasoned equity offering, offering after doing an ipo

Secondary offering involves sale of shares held by directors at company for example

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8
Q

What is. A dilutive secondary offering and what is non dilutive secondary offering

A

Seasoned equity offering is dilutive

Secondary offering is non dilutive as no new shares are issued p, shares just transferred

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9
Q

Preference shares

A

Pay investors a fixed dividend as a percentage of face value of the share.

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10
Q

How can preferred stocks dividends be affected

A

Ordinary shareholders can defer dividends paid to preference shareholders if it is appropriate, ie poor earnings

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11
Q

Characteristics of preference shares

A

No voting right s
Dividends paid out before div to ordinary shares
Preference shares higher in cap structure compared to ordinary stock holders

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12
Q

Why do firms like preference shares

A

Act as a bond security but classed as equity so helps with financing but less affect on d/e ratio

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13
Q

American depository receipt

A

Stock that trades in the USA but represents an investment in a specified number of shares of a non us company

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14
Q

What are ADRs useful for

A

Helping us investors invest in non us companies, simpler

Lower admin costs and avoids paying foreign taxes

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15
Q

Why do foreign countries issue ADRs

A

Helps them increase exposure to wealthy North American market

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16
Q

What does a primary issue require

A

Firm must ensure they have financial stability and managerial competence to obtain stock exchange quotation

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17
Q

Underwrite a capital issue meaning

A

Investment bank will garentee they will buy up any unbought shares or arrange for the unbought to be bought by other institutions

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18
Q

Placing

A

A firm may issue equity by placing new securities with an IB. So issuing house (IB) buys all the shares and resells them to other investors

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19
Q

When is placing used and why is tit good

A

Used by smaller issues, less costly

Firm is garenteed to raise full amount of capital

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20
Q

When is placing used and why is it good

A

Used by smaller issues, less costly

Firm is garenteed to raise full amount of capital

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21
Q

book building

A

Investment banks go out and find investors who are interested in buying shares and create an actual book of them

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22
Q

Accelerated book building

A

Refers to short period of time when investor interest is shown and established by IB

IB may garentee a minimum price and sales revenue to issuing firm

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23
Q

Intermediaries offer

A

Number of brokers placing an issue with their own clients, thus widening the investor base

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24
Q

Offer for sale issuance and why’s it good

A

Issuing house purchase all of the shares from the firm and instead of offering to other investment houses, they issue to the general public instead. The issuing firm garentees the sale of share and IB acts as undersitier

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25
Offer for sale by tender
Firms issue capital by inviting public to to bid for an issue, once the subscription deadline is reached, the firm establish a strike price, which is calculated to ensure whole issue is fully subscribed All shares above strike price are allotted shares at the strike price
26
Problem with offer for sale by tender
Will not know full raised amount until offers have been received
27
Offer for sale by subscription
Offer shares to general public directly with no issuing house in the middle, only done really by large corporations
28
Introduction issuance and benefits of it
Firms may float on stocks exchange using introduction, the company can join market without raising capital No underwriting fees and little advertising
29
Equity crowdfunding
People invest in early stage unlisted company in exchange for shares of that company
30
Rights issue primary or secondary and meaning
Secondary share issue Shareholders can buy a certain number of shares usually at below market value. Not an obligation to buy though Rights can also be sold to others who wish to take advantage e
31
How can a firm try and avoid using an underwriter in rights issue
If the shares are so deeply discounted
32
How do you value the sale of a rights issue to someone who wants to exercise the right but you don’t want to
Rights price = ex rights price - subscription price
33
Scrip dividend and why done
Do scrip issue instead of pay dividend and done to reduce investors income tax liability, investors then sell scrip issue and only have to pay capital gains
34
How is a share repurchase done
Through tender offer where shareholders tender a portion of their shares within a certain time frame
35
Holding period return formula
Pt - Pt-1 +D1 / Pt-1
36
Price of a stock should represent….
Present value of a stream of expected future cash flows
37
Dividend yield equation
D0/P0
38
Dividend cover =
EPS0/DPS0 DPS EQUAL TO DIVIDEND PER SHARE
39
Dividend cover of 1 indicates what and what happens if earnings fall
That it pays out all their earnings in the form of dividends so if earnings fall then dividends will be cut
40
How is dividend decision affected
Signal to investors Clientele effect - attract certain investors Tax implications Stability of firm
41
Limitations of distributing dividends
Companies may have to dip into previous year profits to maintain constant dividend Does it have the cash, as not all profits are cash
42
Dividend discount model
P0 = D1/1+r + D1(1+g)/(1+r)^2 + D1(1+g)^2/(1+r)^3 ….
43
Gordon growth model
P0 = D1/r-g
44
What can a stocks higher expected return represent
Greater riskiness
45
How to estimate growth rate of dividend
Look at historical rates Look at analyst forecasts If dividends are a constant proportion of earnings
46
Growth rate of dividends formula
Retention ratio x ROE
47
What is retention ratio formula
Retained earnings / earnings
48
Two ways of valuation processes for equities
Discount techniques ( absolute value) Market multiples (relative value)
49
Relative value equity valuation formula
Earnings power x market price multiple
50
Current earnings = 2 formulas
Profits after interest tax and preference shares dividends Or Equity dividends + retained earnings
51
Why is eps not always ideal
Not useful for inter company comparisons ( double the eps does not mean double the profits) Earnings is an accounting measure and can be distorted easily by certain accounting tricks
52
Diluted eps
Figure that shoes eps if all stock options had been exercised and this figure is shown with the eps figure
53
Historic pre ratio and prospective P/E ratio
P0/EPS0 P0/ EPS1
54
High P/E ratio indicates
Investors believe future earnings will be high Or The stock is overvalued
55
twelve month trailing P/E ratio
Uses aggreagatiom of past years earnings and gives the ernings for this type of pe ratio
56
What values does forward P/E ratio use
Current share price divided by forecasted earnings
57
Peg ratio (pe to earnings growth ratio) = And what does low peg mean
PE/annual EPS growth Low peg means stock undervalued given its earnings
58
What is. A desirebale peg ratio
Less than 1
59
Two problems of P/E ratio
What if company has negative earnings = pe becomes negative and useless, negative earnings could be due to cyclical nature of economy Ratio based on accounting figures which can get distorted from, accounting standrds Different companies adopt different accounting rules and standrds
60
Price to book ratio, why good
Book value (net assets) more stable than earnings Company may have negative earnings but unlikely to have negative book value
61
How does market value and book value of asset differ
Market value depends on earning power and expected future cash flows Book value is derived by original cost
62
What sector may not be ideal for price book ratio analysis
Service sector which has limited significant assets
63
What does higher price book ratio mean
Market believes company as a whole will use assets more efficiently to create more value in the future
64
Price to sales why is it good
Cannot become negative Less subject to accounting distortions
65
Issues with price to sales ratio
Sales do not always mean profits for shareholders Sales are generated by equity and debt capital, price to sales ignores gearing
66
What is a good price to sales ratio
Low ps is good High ps could be bad
67
Enterprise value =
Debt + equity - cash
68
What does enterprise value to sales ratio do
Eliminate accounting and financing decisions in comparing companies profitability
69
What does a high enterprise value/ sales ratio mean
Sign that investors believe future sales will increase Low value mean investors believe future sales will be slow
70
Why is ebitda to enterprise value ratio a good measure
Standardises between companies for differences in taxation, capital structure and fixed asset accounting. Using EV normalises companies with different cap structures
71
Price to cash flow ratio advantages
Harder to manipulate cash flows More reliable indicator
72
Price to cash flow limitations
Different types of free cash flow Neglects non cash components Simplistic
73
What does a high price to cash flow ratio mean and is high or low ratio preferred
Firm is trading at high price and may not be generating enough cash flow to support multiple Low ratio preferred
74
Free cash flow meaning y
Cahs flows available for distribution to investor in firm
75
Free cash flow to the firm equation
Revenues - operating cost - gross interest - taxes + non cash charges - investment in fixed capital - investment in working capital + net interest =net income + non cash charges - investment in fixed capital - investment in working capital + net interest
76
Free cash flow to equity equation
= Free cash flow to the firm - net interest +net borrowing
77
What does residual mean in residual income
Income in excess of any opportunity costs measured relative to the book value of shareholders equity
78
What does residual mean in residual income
Income in excess of any opportunity costs measured relative to the book value of shareholders equity
79
Residual income formula
Net income - equity charge Equity charge = equity capital x cost of equity
80
How is cost of equity usually generated
CAPM
81
Intrinsic fair value of share equation
Book value per share + present value of future residual income per share
82
What valuation method is most suitable for non dividend paying firms
Residual income method
83
Gearing
Level of company debt relative to equity capital (debt to equity ratios) Total long term debt/total equity
84
What does equity include in debt to equity ratio
Book value of ordinary shares, preferred stock and retained earnings
85
What happens as I rate changes for firms with low and high gearing
Only small increase in risk as I rate changes for low gearing High gearing means more volatile returns and increased risk of I rate changes
86
What happens as I rate changes for firms with low gearing
Only small increase in risk as I rate changes for low gearing
87
Implications of high gearing
Returns more volatile and genuine risk of bankruptcy so investors demand higher return s for the increased risk they are taking p, so overall cost of capital rises
88
Loan agreements can affect what
Dividend level Amount of additional debt taken on Disposal of fixed assets
89
How does higher gearing affect dividend discount model
Increase shearing means increased cost of capital so future expected cash flows are discounted at higher rate leading to lower share prices e
90
Equity finance or debt finance require higher returns
Return required by equity financing is higher than that of debt financing since debt holders higher in the cap structure than equity
91
Equity finance or debt finance require higher returns
Return required by equity financing is higher than that of debt financing since debt holders higher in the cap structure than equity
92
Which sector has the highest and lowest debt equity ratio
Utility highest Shoes lowest

IMC (12 decks)

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