Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-16
PPT 19-12
The Securities and Exchange
Commission
The SECURITIES and
EXCHANGE COMMISSION
19-12
LO 19-2
• Securities and Exchange Commission (SEC) —
The federal agency responsible for regulating the
various stock exchanges; created in 1934 through the
Securities and Exchange Act.
• Prospectus — A condensed version of economic
and financial information that a company must file with
the SEC before issuing stock; the prospectus must be
sent to prospective investors.
TEXT FIGURE 19.1
Is It Insider Trading or Not?
This figure asks students to test their skill in identifying insid-
er trading.
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-17
3. Foreign investors can easily invest in U.S. secu-
rities through large exchanges such as those in
London and Tokyo.
4. Other major exchanges are located in Shanghai,
Paris, Sydney, Hong Kong, Sao Paolo, and To-
ronto.
learning objective 3
Compare the advantages and disadvantages of equity financing by issu-
ing stock, and detail the differences between common and preferred
stock.
III. HOW BUSINESSES RAISE CAPITAL BY SELL-
ING STOCK
A. LEARNING THE LANGUAGE OF STOCK
1. STOCKS are shares of ownership in a compa-
ny.
2. A STOCK CERTIFICATE is evidence of stock
ownership that specifies the name of the com-
pany, the number of shares it represents, and
the type of stock being issued.
3. PAR VALUE is a dollar amount assigned to
each share of stock by the corporation’s charter.
a. Some states use par value as a basis for the
state’s incorporation fees.
b. Most companies issue NO-PAR STOCK.
4. DIVIDENDS are the part of a firm’s profits that
may be distributed to shareholders as either
cash payments or additional shares of stock.
5. Paying INTEREST ON BONDS is a legal obliga-
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-18
test
prep
PPT 19-13
Test Prep
TEST PREP
19-13
• What is the primary purpose of a securities
exchange?
• What does NASDAQ stand for? How does this
exchange work?
PPT 19-14
Learning the Language of Stocks
LEARNING the
LANGUAGE of STOCKS
19-14
LO 19-3
• Stocks — Shares of
ownership in a company.
• Stock Certificate —
Evidence of stock ownership.
• Dividends — Part of a firm
’
s
profits that the firm may
distribute to stockholders as
either cash or additional
shares.
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-19
tion; paying DIVIDENDS ON STOCK is not.
B. ADVANTAGES AND DISADVANTAGES OF ISSU-
ING STOCK
1. ADVANTAGES OF ISSUING STOCK IN-
CLUDE:
a. As owners of the business, the stockholders’
investment never has to be repaid.
b. There is no legal obligation to pay dividends
to stockholders.
c. Selling stock can improve the condition of
the firm’s balance sheet.
2. DISADVANTAGES OF ISSUING STOCK IN-
CLUDE:
a. As owners, stockholders have the RIGHT
TO VOTE and can alter the direction of the
firm.
b. Dividends are paid out of profit after taxes
and are not tax-deductible.
c. The need to keep stockholders happy can
affect management decision making.
C. ISSUING SHARES OF COMMON STOCK
1. COMMON STOCK is the most basic form of
ownership in a firm; it confers voting rights and
the right to share in the firm’s profits through div-
idends, if approved by the firm’s board of direc-
tors.
2. Common stock includes the rights:
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-20
PPT 19-15
Advantages of Issuing Stock
ADVANTAGES of
ISSUING STOCK
19-15
LO 19-3
• Stockholders are owners
of a firm and never have to
be repaid their investment.
• There is no legal obligation
to pay dividends.
• Issuing stock can improve
a firm’s balance sheet
since stock creates no
debt.
PPT 19-16
Disadvantages of Issuing Stock
DISADVANTAGES of
ISSUING STOCK
19-16
LO 19-3
• Stockholders have the right to vote for a
company’s board of directors.
• Issuing new shares of stock can alter the control
of the firm.
• Dividends are paid from after-tax profits and are
not tax deductible.
• The need to keep stockholders happy can affect
management’s decisions.
PPT 19-17
Two Classes of Stock
TWO CLASSES of STOCK
19-17
LO 19-3
• Common Stock — The most basic form; holders
have the right to vote for the board of directors and
share in the profits if dividends are approved.
• Preferred Stock — Owners are given preference in
the payment of company dividends before common
stock dividends are distributed. Preferred stock can
also be:
– Callable
– Convertible
– Cumulative
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-21
a. To ELECT a company’s board of directors
and on important issues.
b. To SHARE IN THE FIRM’S PROFITS
through dividends, if approved by the firm’s
board of directors.
3. With voting rights, common stockholders can in-
fluence policy.
4. With PREEMPTIVE RIGHT, common stockhold-
ers have the first right to purchase any new
shares of common stock.
D. ISSUING SHARES OF PREFERRED STOCK
1. PREFERRED STOCK is stock that gives its
owners preference in the payment of dividends
and an earlier claim on assets than common
stockholders if the company is forced out of
business and its assets sold. This type of stock
doesn’t include voting rights.
2. PREFERRED STOCK DIVIDENDS DIFFER
FROM COMMON STOCK DIVIDENDS in sev-
eral ways:
a. The PAR VALUE is the basis for the divi-
dend the firm is willing to pay.
b. Dividends on preferred stock must be paid in
full before any common stock dividends can
be paid.
3. SPECIAL FEATURES OF PREFERRED
STOCK
a. Preferred stock can be CALLABLE, mean-
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-22
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-23
ing a company could require preferred
stockholders to sell back their shares.
b. Preferred stock could also be CONVERTI-
BLE to shares of common stock.
c. With CUMULATIVE PREFERRED STOCK,
the missed dividends can be accumulated if
they are not paid.
learning objective 4
Compare the advantages and disadvantages of obtaining debt financing
by issuing bonds, and identify the classes and features of bonds.
IV. HOW BUSINESSES RAISE CAPITAL BY ISSU-
ING BONDS
A. A BOND is a corporate certificate indicating that a
person has lent money to a firm.
1. A company that issues bonds has a LEGAL
OBLIGATION to make regular interest pay-
ments to investors and to repay the entire bond
principal.
B. LEARNING THE LANGUAGE OF BONDS
1. The PRINCIPAL is the face value of a bond.
2. The MATURITY DATE is the exact date the is-
sue of a bond must pay the principal to the
bondholder.
3. INTEREST is the payment the issuer of the
bond makes to the bondholders to pay for use of
the borrowed money.
4. The BOND’S INTEREST RATE is also called
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-24
test
prep
PPT 19-18
Test Prep
TEST PREP
19-18
• Name at least two advantages and disadvantages
of a company’s issuing stock as a form of equity
financing.
• What are the major differences between common
stock and preferred stock?
PPT 19-19
Learning the Language of Bonds
• Bond — A corporate certificate indicating that an
investor has lent money to a firm (or a government).
LEARNING the
LANGUAGE of BONDS
19-19
LO 19-4
• The principal is the face
value of the bond.
• Interest — The payment the
bond issuer makes to the
bondholders to compensate
them for the use of their
money.
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-25
the bond’s COUPON RATE, a term from when
bonds were issued as bearer bonds.
a. Today bonds are REGISTERED, and
changes in ownership are recorded electron-
ically.
b. The BOND’S INTEREST RATE VARIES
based on factors such as the state of the
economy, the reputation of the company,
and the going interest rate for bonds.
c. Once the interest rate is set for a corporate
bond issue, it cannot be changed.
5. Bonds are also rated in terms of their RISK by
independent firms such as Standard & Poor’s
and Moody’s Investor Services.
C. ADVANTAGES AND DISADVANTAGES OF ISSU-
ING BONDS
1. ADVANTAGES OF BONDS INCLUDE:
a. BONDHOLDERS are creditors, not owners,
and seldom have a vote on corporate affairs.
b. Interest paid on bonds is tax-deductible.
c. Bonds are a temporary source of funding.
d. Bonds can be repaid before the maturity
date.
2. DISADVANTAGES OF BONDS INCLUDE:
a. Bonds increase debt.
b. Paying interest on bonds is a legal obliga-
tion.
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-26
PPT 19-20
Types of Bonds
TEXT FIGURE 19.2
Types of Government Securities
That Compete with Corporate
Bonds
TYPES of BONDS
19-20
LO 19-4
PPT 19-21
Advantages of Issuing Bonds
ADVANTAGES of
ISSUING BONDS
19-20
LO 19-4
• Bondholders are creditors, not owners of the firm
and cannot vote on corporate matters.
• Bond interest is tax deductible.
• Bonds are a temporary source of funding and are
eventually repaid.
• Bonds can be repaid before the maturity date if
they are callable.
PPT 19-22
Disadvantages of Issuing Bonds
DISADVANTAGES of
ISSUING BONDS
19-21
LO 19-4
• Bonds increase debt and can affect the market’s
perception of the firm.
• Paying interest on bonds is a legal obligation.
• If interest is not paid, bondholders can take legal
action.
• The face value of the bond must be repaid on the
maturity date.
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-27
c. The face value of the bonds must be repaid
on the maturity date.
D. DIFFERENT CLASSES OF BONDS
1. UNSECURED BONDS are not backed by any
collateral.
a. DEBENTURE BONDS are bonds that are
unsecured (i.e., not backed by any collateral
such as equipment).
b. Debenture bonds are issued only by well–
respected firms with excellent credit ratings.
2. SECURED BONDS (sometimes called MORT-
GAGE BONDS) are backed by some tangible
asset (COLLATERAL) that is pledged to the
bondholder if interest or principal is not paid.
E. SPECIAL BOND FEATURES
1. Companies often establish a RESERVE AC-
COUNT to ensure that funds are available to re-
pay bondholders on the maturity date.
a. A SINKING FUND is a reserve account in
which the issuer of a bond periodically re-
tires some part of the bond principal prior to
maturity so that enough capital will be ac-
cumulated by the maturity date to pay off the
bond.
b. ADVANTAGES OF SINKING FUNDS:
i. They provide for an orderly retirement
(repayment) of a bond issue.
ii. They reduce the risk the bond will not be
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-28
PPT 19-23
Bond Ratings
TEXT FIGURE 19.3
Bond Ratings: Moody’s Investors
Service, Standard & Poor’s Investor
Service, and Fitch Ratings
BOND RATINGS
19-23
LO 19-4
PPT 19-24
Different Classes of Corporate
Bonds
• Corporations can issue two classes of bonds:
DIFFERENT CLASSES of
CORPORATE BONDS
19-24
LO 19-4
1. Unsecured bonds
(debenture
bonds): not
backed by specific
collateral.
2. Secured bonds:
backed by
collateral (land or
equipment).
PPT 19-25
Special Features in Bond Issues
SPECIAL FEATURES in
BOND ISSUES
19-25
LO 19-4
• Sinking Fund — Reserve account set up to ensure
that enough money will be available to repay
bondholders on the maturity date.
• Callable bonds permit bond issuers to pay off the
principal before the maturity date.
• Convertible bonds allow bondholders to convert
their bonds into shares of common stock.
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-29
repaid.
iii. The market price for the bond is sup-
ported.
2. A CALLABLE BOND is a bond that permits the
issuer to pay off the bond principal before its
maturity date.
a. Call provisions must be disclosed when a
bond is issued.
b. Callable bonds give companies some discre-
tion in their long-term forecasting.
3. CONVERTIBILITY
a. A CONVERTIBLE BOND is one that can be
converted into shares of common stock in
the issuing company.
b. Bondholders must weigh the potential stock
profit with the loss of the interest from the
bond.
learning objective 5
Explain how to invest in securities markets and set investment objectives
such as long-term growth, income, cash, and protection from inflation.
V. HOW INVESTORS BUY SECURITIES
A. HOW TO BUY STOCKS, BONDS, OR OTHER SE-
CURITIES
1. PROCEDURE:
a. The investor must find a STOCKBROKER, a
registered representative who works as a
market intermediary to buy and sell securi-
ties for clients.
Chapter 19 – Using Securities Markets for Financing and Investing Opportunities
19-30
test
prep
PPT 19-26
Test Prep
TEST PREP
19-26
• Why are bonds considered a form of debt
financing?
• What does it mean if a firm issues a 9%
debenture bond due in 2025?
• Explain the difference between an unsecured and
secured bond.
• Why are convertible bonds attractive to investors?
PPT 19-27
Buying Securities
BUYING SECURITIES
19-27
LO 19-5
• Stockbroker — A registered
representative who works as
a market intermediary to buy
and sell securities for clients.
• Online trading services,
such as TD Ameritrade,
E*Trade, and Scottrade,
offer securities trading
services online to buy and
sell stocks and bonds.