Common Stock Introduction - Financial Management

Unlike long -term debt and preferred stock, which are normally fixed-income securities, common stock is a variable-income security. Common stockholders are said to participate in a firm’s earnings because they may receive a larger dividend if earnings increase in the future or their dividends may be cut if earnings drop. For example, in 1974, Tucson Electric Power Company sold new common stock when annual dividends were $0.84 per share. By 1989, the annual rate was $3.90 per share, having been raised several times during the intervening years. However, during 1990, the company suffered substantial losses and cut its dividend to zero.

Its common stock price dropped from about $65 a share in 1986 and 1987 to $37⁄8 a share by early 1994. In 1996, the stock had a 1 for 5 reverse stock split. Tucson has changed its name to UniSource Energy. At the end of 2000, its stock was trading at $19 per share.After a 10-year period of no dividend payments, the company resumed paying common stock dividends in 2000 ($0.32 per share). By 2003, the dividend had been increased to $0.60 per share. Common stock also differs from long -term debt and preferred stock in that the market price tends to fluctuate more than the price of bonds and preferred stock, thus causing returns on common stock investments to vary more widely over time than returns on longterm debt or preferred stock.

This chapter describes the characteristics of common stock. The process by which securities are offered for sale and the role of the investment banker in this process are discussed. Finally, valuation models for common stock are developed.

Understanding Stock Quotations

Figure shows selected stock quotations for stocks traded on the New York Stock Exchange. Beginning at the left -hand side, the second and third columns show the stock’s price range during the previous 52 weeks. For example, the per -share price of DuPont common stock ranged between $38.60 and $46.25. The column immediately to the right of the stock name shows the ticker symbol used to identify this stock on the exchange’s ticker tape, DD for DuPont. The next column shows the current annual dividend rate; for example, DuPont’s current annual dividend rate is $1.40 per share of common stock. Dividends are normally paid in four quarterly installments throughout the year. The next column shows the dividend (percentage) yield. For DuPont, the figure is (calculated as the annual dividend divided by the closing price, or $1.40/$42.11 = 3.3%).

The price -to -earnings or P/E ratio (the closing price divided by the sum of the latest four quarters of earnings per share) is shown next. The P/E ratio (39) indicates how much investors are willing to pay for $1 of current earnings from the firm. Generally, the greater the risk of the firm, the lower will be its P/E multiple. Similarly, the P/E ratio will tend to be higher the more rapid the expected growth rate in future earnings. The next figure is the sales volume in hundreds of shares; on this day, 5,009,400 shares of DuPont common stock were traded.

The next column lists the last or closing prices for the day. The final column shows the net change in price per share for the day, or the difference between this day’s last price and the last price on the previous business day (or the last day on which a trade took place). For the day, the common stock of DuPont gained 49 cents per share. When a company has preferred stock outstanding that is also traded on the New York exchange, the different classes of preferred stocks are listed in a separate table. DuPont has two preferred stock issues (pfA and pfB that pay $3.50 and $4.50 per share, respectively). Unlike common stock dividends, the preferred stock dividend rate normally will not change over the time the issue is outstanding.

All rights reserved © 2018 Wisdom IT Services India Pvt. Ltd Protection Status

Financial Management Topics