CHAPTER

10
© 2003 South-Western/Thomson Learning

Stock Offerings and Investor Monitoring

Chapter Objectives

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Describe the stock exchanges where stocks are traded Analyze the process of the initial public offering of stock by a company Be able to interpret a stock quote Explain the institutional use of stock markets Describe the globalization of stock markets

creating liquidity for investors and company evaluation for managers .Background on Common Stock l Common stock = certificate representing equity or partial ownership in a corporation Issued in primary market by corporations that need long-term funds Stock is then traded in the secondary market.

Background on Common Stock Ownership and Voting Rights l Owners of common stock vote on: u u u u Election of board of directors Authorization to issue new shares Amendments to corporate charter Other major events l l Many investor assign their vote to management via a proxy Households own about half of all common stock. the rest is owned by institutional investors .

but usually no voting rights Trade voting rights for stated fixed annual dividend Dividend paid before common if dividends are declared by board of directors Dividend may be omitted l l Cumulative provision If common dividend paid. preferred dividend fixed .Background on Preferred Stock n n n n Represents equity or ownership interest.

Public Placement of Stock n Initial public offerings (IPOs) l l First-time offering of shares to the public Firm must provide information to public u u u Registration statement to SEC Prospectus Firm is assisted by an investment banker Price generally rises on first day Longer-term performance of IPOs is poor l Performance of IPOs u u .

Public Placement of Stock n Secondary stock offerings l New stock issued by firm that already has shares outstanding 1982 SEC rule Allows firms to place securities without the time lag associated with registering with SEC n Shelf Registration l l .

Pacific NYSE is largest. controlling 80 percent of value of all organized exchanges u u Must own a seat on exchange in order to trade Trading resembles an auction .Stock Secondary Markets Organized Exchanges l l l Execute secondary market transactions Examples: NYSE. Midwest. AMEX.

Stock Secondary Markets Over-the-Counter Market l l l No trading floor or specific location Telecommunications network Nasdaq u u National Association of Securities Dealers Automatic Quotations Thousands of small firms. plus high-tech giants Tiny firms that do not meet requirements for NASDAQ l Pink sheets u .

and market-makers u Role of specialists Market order Limit order Stop order l Types of orders u u u .Stock Secondary Markets n n Trend: Consolidation of stock exchanges Market microstructure l Specialists. floor brokers.

Stock Secondary Markets l Changes in technology u u u u Online trading Real-time quotes Company information Electronic Communications Networks (ECNs) Specify amount of borrowed versus amount in cash l Margin requirements u .

hopefully at a lower price Investor able to have potential profit from decline in stock price l Short sales u u u .Stock Secondary Markets l Purchasing stock on margin u u u Borrow a portion of the funds from broker Margin is the amount of equity an investor provide Magnifies returns (both good and bad) Borrow stock and sell Repay stock loan.

Regulation of Trading on Stock Exchanges n Securities Act Of 1933 and 1934 n n Securities And Exchange Commission National Association Of Securities Dealers (NASD) Regulate minimum information for investor and broker/dealer business practices Circuit breakers n n .

Stock Quotation n Stock Quotation l l l l l l l 52-week price range (high/low and YTD% change) Stock symbol Dividend annualized and dividend yield Price-earnings ratio Volume in round lots Previous day’s price close and net daily change Remainders in cents. not eighths .

88 Highest price of the stock in this year Lo 80.6 Dividend yield.77 Closing stock price Net Chg 1 1.06 Change in the stock price on the previous trading day from the close on the day before . which represents the annual dividend as a percentage of the prevailing stock price PE 20 Priceearnings ratio based on the prevailing stock price Vol 100s 71979 Trading volume during the previous trading day Last 93.3 Year-to-date percentage change in stock price Hi 121.06 Lowest price of the stock in this year Stock IBM Name of stock Sym IBM Stock Symbol DIV .6 YTD % change 110.56 Annual dividend paid per year Yld% .Exhibit 10.

firms Value-weighted 500 large U.S. firms n Standard and Poor’s (S&P) 500 l l n n New York Stock Exchange Indexes Other Stock Indexes l Amex.S.Stock Indexes n Dow Jones Industrial Average l l Price-weighted average 30 large U. NASDAQ .

Investor Trading Decisions n n n n Stock value = proportional value of total company Investor return = dividend yield + capital gain/loss New information translated into trading decisions impacting supply/demand for shares New equilibrium price established until new information appears .

8 New Favorable Information Disclosed to Investors Increased Valuation of Security by Investors Increased Demand for Security Increase in Equilibrium (Market) Price of Security Reduced Supply of Security for Sale New Unfavorable Information Disclosed to Investors Reduced Valuation of Security by Investors Reduced Demand for Security Increased Supply of Security for Sale Decrease in Equilibrium (Market) Price of Security .Exhibit 10.

Institutional Participation in Stock Markets n Program trading by institutions l l l l Simultaneously buying and selling of a portfolio of at least 15 different stocks valued at more than $1 million Most commonly used by securities firms Program refers to the use of computers Impact on stock volatility u u Often blamed for rise or fall in stock market Studies show that program trading does not increase volatility .

Investor Monitoring of Firms in the Stock Market n Shareholder activism u An investor who is dissatisfied with the way managers are running a firm has three choices: Sell Do Nothing Flush! Shareholder Activism .

Investor Monitoring of Firms in the Stock Market n Communication with the firm l l Effort to place pressure on management Institutional investors u CALPERS n n Proxy contest Shareholder lawsuits .

Corporate Monitoring of Firms in the Stock Market n Market for corporate control l l Stock price declines due to poor management Subject to possible takeover Antitakeover amendments Poison pills Golden parachutes n Barriers to market for corporate control l l l .

Corporate Monitoring of Their Own Stock in the Stock Market n Stock repurchases l l Dividend alternative or undervalued stock Excessive cash relative to +NPV investments If managers believe the stock price undervalued. they may buy the outstanding shares with borrowed funds Signals overvalued shares n Leveraged buyouts (LBO) l n Stock offerings l .

Globalization of Stock Markets n Barriers to international stock trading have decreased l l Reduction in information costs Reduction in exchange rate risk n n n n Foreign stock offerings in the United States International placement process Global stock exchange characteristics Emerging stock markets .

Globalization of Stock Markets n Methods used to invest in foreign shares l l l l Direct purchases American Depository Receipts (ADRs) International mutual funds World equity benchmark shares .

1998 “Bloody Thursday” Russian financial crisis l Integration of markets during mini-crashes u u n Increased integration associated with increased financial technology. competition. and lessened government regulation .Globalization of Stock Markets n Global diversification and integration among stock markets l Integration of markets during the 1987 crash u All major stock markets declined. indicating the underlying cause systematically affected all markets Example: August 27.

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