Cihan University

Department of banking and financial

sciences

SECURITY ANALYSIS
Course: Fourth Year
Dr.Mujeeb Hassan
Mohammed

2018 /2019
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 Investment has Different Meaning

 Definition: Investment involves employment of
funds with the aim of achieving additional
income or growth in values.
 Lending money to another [interest]
  Purchasing of gold[value appreciation]
  Purchase of insurance plan[promised future
 benefits]
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 Numerous avenues of investment are available today,

 such as,
  Non marketable financial assets
  Bonds
  Mutual fund schemes
  Real assets
  Equity shares
  Life insurance policies
  Financial derivatives and
  Precious objects
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 Financial Meaning of Investment

  commitment of a person’s funds to derive future
 income or appreciation in the value of their capital.
  Future income may be
 Interest
 Dividend
 Premiums
 Pension benefits
  Purchasing of shares/debentures
  Post office saving certificates
  Insurance policies
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 Economic Meaning of Investment

  net addition to the economy’s capital stock which
 consists of goods and services that are used in
 the production of other goods and services.
  Formation of new and productive capital
 New construction
 Plant and machinery
 Inventories
  All these investments generate physical assets
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 Characteristics of Investment
 All investments are characterized by certain
features.
  Returns
  Risk
  Safety
  Liquidity
  Tax Shelter
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 Risk Continues………../
 Risk of an investment depends on the following
 Factors
  Maturity period
  The lower credit worthiness
  Nature of the investment eg. Equity shares carry
 higher risk and debt instruments bond/debentures
 carry lower risk compare with equity.
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 Return
 Returns depends upon
  nature of the investment
  the maturity period
  host of other factors
 Received return in the form of
 Yield[dividend or interest] + capital
 appreciation[difference between sales price and
 purchase price]
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 Risk
  Risk is inherent in any investment.
  Risk and return of an investment are related.
  the higher the risk, the higher is the return.
  Risks may be:
 Loss of capital
 Delay in repayment
 Non-payment of interest
 Variability in returns
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 Safety
  Every investor expects to get back his capital on
 maturity without loss and without delay
  Safety is another feature which an investor
 desires for his investments
  safety implies the certainty of return of capital
 without loss of money or time.
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 Liquidity
 An investment which is easily saleable or
 marketable
  without loss of money
  without loss of time
 is said to be possess liquidity.
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 Tax Shelter
 Tax benefits are in the following three kinds
  Initial tax benefit
  Continuing tax benefit
  Terminal tax benefit
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 Initial tax benefit

 The tax relief enjoyed at the time of making the
 Investment.
 Continuing Tax benefit
 A continuing tax benefit represents the tax
shield
 associated with the periodic returns from the
 Investment.
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 Terminal Tax benefit

 Relief from taxation when an investment is
realized
 or liquidate
 withdrawal from a public provident fund
 account is not subject to tax
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 Objectives of Investment
 Each investor tries to maximize his welfare by
 choosing the optimum combination of risk and
 expected return in accordance with his preference and
 capacity.
 Investors’ objectives
  Maximization of return
  Minimization of risk
  Hedge against inflation
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 Savings kept as a cash are barren(unproductive)

  Don't earn anything
  Loses its value due to rise in prices, since
 inflation erodes the value of money
  If the investment can not earn as much as the
 rise in prices, the real rate of return would be
 negative
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 Actual return realized from an investment may

 different from the expected return – risk
  Government securities- low risk[practically
risk
 free]
  Debentures and preference shares-medium
risk
  Equity shares- high risk
 Types of investments:
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 investments differ in terms of risk, maturity, and

many other characteristics.

 Definition of investment: “An asset or item that is

purchased with the hope that it will generate
income or bigger value in the future”
 Types of investment
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 Short-Term Investments: Short-term investments have a life of

1 year or less and usually (but not always) carry little or no risk
 Common Stock: an equity investment that represents ownership

in a corporation
 Fixed-Income Securities: is an investment that pays regular income

 The most common fixed-income securities are bonds, convertible

securities, and preferred stock.

 Mutual funds: a kind of investment that uses money from many

investors to invest in stocks, bonds or other types of investment.

 Derivatives: a security with a price that is dependent upon or

derived from one or more underlying assets.

 Types of investments:
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 What is Securities?.
 Securities define as((Financial assets that can be

traded, such as shares and bonds include

((shares, scrips,stock,bonds,debentures, or other
marketable securities of any incorporated
company or other corporate body or
government)).
 Securities are classified on the basis of

RETUURN and SOURCE OF ISSUE

 securities according SOURCE OF ISSUE
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Securities

Issuers Return

Quasi- Public Fixed Variable

Governmen income income
Corporates governmen sector
t security security
t enterprises
 Types of security markets:
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 In capital markets investors can make transactions in a

wide variety of financial securities, including stocks,
bonds, mutual funds, and derivatives.
 Capital markets are classified as:

1. primary

2. Secondary

 depending on whether securities are being sold initially

(at the first time) to investors by the issuer (primary

market) or resold among investors (secondary market).
 Types of security markets:
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securities markets are broadly classified as

 Money markets: the market where short-term debt securities (with

maturities less than 1 year) are bought and sold.

 Capital markets: the market where long-term securities (debts with

maturities more than 1 year AND equity) are bought and sold.

 Investors use the money market for short-term borrowing and

lending.
 Investors turn to the capital market to buy and sell long-term
securities, such as stocks and bonds.
 In this course we will devote most of our attention to the capital
market.
 Common stocks
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 Each share of common stock represents an equity

(or ownership) position in a company.
 Every share entitles the holder to:
 an equal ownership position

 participation in the corporation’s earnings and

dividends
 An equal vote (usually), and an equal voice in

management.
 Common Stock Values
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 Par value : A stock’s par value is an arbitrary amount

assigned to the stock when it is first issued.
 Book Value: Another accounting measure, book value is the
stockholders’ equity in the firm as reported on the balance sheet
Book value of the company = total Assets – (total Liabilities + Preferred stocks)
Book value of a common stock = Book value of the company / number of common stocks
 Market Value: A stock’s market value is simplest prevailing
market price.
 Investment Value: It indicates the worth investors place on
the stock (what they think the stock should be trading for).
 Example#1 Book Value of the common stock
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 Social Networks Incorporated (SNI) lists assets worth

$100 million on its balance sheet along with $60
million in liabilities. There is no preferred stock, but the
company has 10 million common shares outstanding.
 The book value of SNI’s stockholders’ equity is $40
million
[100,000,000 - (60,000,000+0) = 40,000,000]
 The book value of SNI’s common stock is $4
[40,000,000 / 10,000,000 = $4]
 Example#2 Book Value of the common stock
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 Social Networks Incorporated (SNI) lists assets worth

$100 million on its balance sheet along with $60
million in liabilities. Preferred stocks worth $10
million in liabilities, but the company has 10 million
common shares outstanding.
 The book value of SNI’s stockholders’ equity is $30
million
[100,000,000 - (60,000,000+10,000,000) = $30,000,000]
 The book value of SNI’s common stock is $3.
[30,000,000 / 10,000,000 = $3]
 Shares Terminology
 Authorized shares – maximum amount of shares a
corporation is allowed to sell as authorized by
corporate charter
 Issued shares – number of shares sold
 Outstanding shares – number of shares held by
shareholders

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 Accounting For Stockholders'
Equity
1. Common Stock
2. Paid-in Capital (also referred to as Contributed Capital)
3. Retained Earnings
4. Treasury Stock

Issuing Records - JV
1- Issuing Par Value Common Shares
2- Issuing No-Par Value Common Shares
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 1- Issuing Par Value Common Shares
* For (Example), let's assume that a corporation's
common stock has a par value of $0.10 per share. On
March 10, 2015, one share of stock is issued for
$13.00. (The $13 amount is the fair market value based
on supply and demand for the stock.) The accountant
makes a journal entry to record the issuance of one
share of stock along with the corporation's receipt of
the money (note that the "Common Stock" account
reflects the par value of $0.10 per share):

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 2- Issuing No Par Value Common Shares
** If a state does not require a par value or a stated
value, the entire proceeds will be credited to the
Common Stock account:

*** When no-par shares do not have a stated value,

and we issued 1000 shares for 8,000 USD by cash.
Account Titles and Explanation Debit Credit
Cash 8,000
Common Shares 8,000
(To record issuance of 1,000 no-par
common shares)
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 Acquisition of Shares
On July 1, 2015, Passera Corporation acquires
1,000 shares (10% ownership) of Beal
Corporation common shares at $40 per share plus
brokerage fees of $500

7/1 Equity Investments 40,500

Cash 40,500
(To record purchase of 1,000 Beal common
shares)

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Sale of Shares
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 Net proceeds from the sale (sales price less brokerage

fees) - Cost of the shares =Gain (Loss)
** Passera Corporation receives net proceeds of $39,500
on the sale of its Beal Corporation shares on February 10,
2002

1/1Cash 39,500
Loss on Sale of Equity
Investments 1,000
Equity Investments 40,500
(To record sale of Beal common shares)
 Common Stocks Dividends
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 A common stock dividend is the dividend paid to

common stock owners from the profits of the
company.
 Types of dividends:
1. Cash Dividends
2. Stock Dividends
 Common Stocks Dividends
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 The Dividend Decision: By paying out dividends, typically on a

quarterly basis, companies share some of their profits with
stockholders (every common stock receives the same dividend
value).
 A firm’s board of directors decides how much to pay in dividends.
 The directors evaluate the firm’s operating results and financial
condition to determine whether dividends should be paid and, if
so, in what amount.
 They also Decide the type of the dividends.
 If the directors decide to pay dividends, they also establish
several important payment dates
 Common Stocks Dividends
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 When the board of directors assembles to consider the question

of paying dividends, they evaluate the Earnings Per Share (EPS)
of the firm

 For example, if a firm reports a net profit of $1.25 million, pays

$250,000 in dividends to preferred stockholders, and has
500,000 shares of common stock outstanding.
 it has an EPS of (($1,250,000 - $250,000)/500,000)=2$.
 Common Stocks Dividends
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 Some Important Dates:

1. Date of declaration: the date when the firm announces
the dividends decision.
2. Date of record: the date on which the investor must be a
registered shareholder of the firm to be entitled to a
dividend. These stockholders are often referred to as
holders of record.
3. Payment date: It is the actual date on which the
company will mail dividend checks to holders of record
(and is also known as the payable date); follows the
date of record by a week or two.
 Common Stocks Dividends
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 Some Important Dates:

4. Ex-dividend date.: The ex-dividend date is usually
set for stocks two business days before the record
date. If you purchase a stock on its ex-dividend date
or after, you will not receive the next dividend
payment. Instead, the seller gets the dividend.
The reason is that the buyer of the stock (the new
shareholder) will not have held the stock on the
date of record.
 Common Stocks Dividends
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 Declaration Date
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 Date the Board of Directors declares cash dividend

 Commits the corporation to a binding legal
 obligation that cannot be rescinded

On December 1, 2002 the directors of Media General declare a

$.50 per share cash dividend on 100,000 shares of no-par value
common shares (100,000 x $.50=$50,000)

12/1 Cash Dividends (or Retained Earnings) 50,000

Dividends Payable 50,000
 Record Date
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 Date ownership of the outstanding shares is

determined for dividend purposes

12/1 No entry necessary

 Payment Date
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 Date dividend cheques are mailed. January 20 is

the payment date for Media General

1/20 Dividends Payable 50,000

Cash 50,000
 Types of dividends
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1) CASH DIVIDENDS
 The income of the common stock & The most
common type of dividends
 Company’s earnings increase = company’s
dividends increase
 How to assess the amount of dividends received?
 Do firms pay out all the earning as dividends?
 Types of dividends (cash
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dividends)
 assessing the amount of dividends received

 Example: In May 2012, Radio Shack paid its

quarterly dividend of $0.125 per share, which
translates into an annual dividend of $0.50. At that
time, Radio Shack’s share price was about $4.
so its dividend yield was 12.5% ($0.50 ÷ $4.00),
which is an unusually high level for common stock.
 Types of dividends (cash
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dividends)
 Firms generally do not pay out all of their earnings
as dividends.
 Instead, they distribute some of their earnings as
dividends and retain some to reinvest in the
business.
 The dividend payout ratio measures the percentage
of earnings that a firm pays in dividends.
 Types of dividends (cash
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dividends)
 Example: In the 12 months ending in June 2012,
The Coca-Cola Company paid dividends of $1.96
per share to investors. Over the same period, the
company’s earnings per share were $3.76
 So Coca-Cola’s dividend payout ratio was
approximately 52% (1.96/3.76) In other words,
Coca-Cola used about half of its earnings to pay
dividends and it reinvested the other half.
 Types of Dividends
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 Stock Dividends: A stock dividend simply means

that the firm pays its dividend by distributing
additional shares of stock
 Example: if the board declares a 10% stock
dividend, then you will receive 1 new share of
stock for each 10 shares that you currently own.
Comparison between common and preferred stocks
Common stocks Preferred stocks

1. No fixed income on regular basis 1. Fixed income on regular basis

2. Have rights of voting on corporate 2. Does not have rights of voting on

policy corporate policy

3. Common stockholders receive their 3. preferred stockholders receive their

dividends after the preferred dividends before anything paid to the
stockholders. Common stockholders

4. Common stocks do not have 4. The dividends of preferred stocks have

cumulated dividend rights cumulated dividend rights

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Comparison between common and preferred stocks
Common stocks Preferred stocks

5. Is not convertible into preferred 5. May be converted to a common

stock or bonds stock
6. Par value (face value) is usually lower 6. Par value (face value) is usually
than the preferred stock higher than the common stock
7. The common stock is not 7. The preferred stock is redeemable
redeemable and lasts during the upon the stockholder demand
whole lifetime of the company
8. Dividends can be cash or stocks. 8. Dividends are only cash.

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Comparison between common and preferred stocks
Common stocks Preferred stocks

9. equity securities 9. hybrid securities = combines

elements of debt securities and
equity securities

10. Rights of offering 10. No rights of offering

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Example : Hill Company had the following
transactions related to its common stock ($1 par
value) during the year ended December 31,
2002. Prepare the journal entries using the cost
method.
February 1 / Issued 5,000 shares for $9 per share.
April 1 / Purchased 2,000 shares for $10 per share.
June 1 / Sold 1,000 shares of treasury stock at $11 per
share.
August 1 / Sold an additional 400 shares of treasury stock
at $9 per share.
December 1 / Sold an additional 500 shares of treasury
stock at $8 per share.
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Solution
February 1. Issued 5,000 shares for $9 per
share

April 1. Purchased 2,000 shares for $10 per share:

53
Solution
June 1. Sold 1,000 shares of treasury stock for $11
per share:

August 1. Sold 400 shares of treasury stock for $9 per share:

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Solution
December 31. Sold 500 shares of treasury stock for
$8 per share:

55
• Bonds : are a written contract that contains a pledge to pay a certain
amount of money on a certain date or when a condition is met. All
loan agreements and contracts are bonds and bonds are defined as
amounts borrowed by governments or enterprises and are pledged
with an addition Interest in a date to be agreed upon. Other bond
tariffs are sealed instruments. They are guarantees under which an
individual, government or institution pays a specified amount of
money.

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• Bond: According to the type of warranty, the two types are divided
into twoSecured bonds are bonds that guarantee assets such as land
and real estate. When the company is liquidated or not paid for its
obligations, the holders of the bonds are entitled to dispose of these
assets in order to obtain their rights.
•  Unsecured bonds: are non-collateralized securities and their
collateral is the net asset value of the company. The bonds will be
available for trading, including the following: Bonds for the holder;
securities that accept trading in the purchase or sale; and when the
interest is due on its date, the investor submits the coupon attached
to the bond in order to obtain the interest rate.

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• The bonds registered in the names of investors, and paid interest
checks registered in the names of owners, and provide these bonds
to protect their owners from loss or theft.Bonds according to the
issued value, include three types namely: 1-Bonds that are sold at
nominal value; investors believe that the coupon rate of the bonds is
commensurate with the size of the risks affecting the investment.2-
Bonds are sold at a discount on nominal value; the coupon rate for
bonds is lower than similar bonds at the level of risk, and the
discount is applied to compensate investors for the actual value paid
and the lower the nominal value. 3-Bonds are sold at a higher value
than their nominal value; the coupon ratio for bonds is higher than
similar bonds at the same level of risk.

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• Bonds in accordance with the issue of the issuance, and divided into
the following types: Bonds issued by enterprises to finance their
medium- and long-term investments. Bonds issued by the
Government's General Treasury. Bonds issued by international
organizations. 

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