FINA100 Basic Business Finance

The Stock Market

The Stock Market

1. There are many ways to increase capitalization of a firm

a. The most popular are debt financing and equity financing.
2. Key Terms
a. Capital
i. The long term funds of a firm
b. Debt capital
i. All long term borrowing incurred by a firm
c. Equity Capital
i. The long term funds provided by the firm’s owners, the
stockholders
• Can be obtained internally
o Instead of paying stockholders dividend, the
company retains it to be used (retained
earnings)
• Can also be obtained externally
o Sell common or preferred stock
3. Concepts and Key Characteristics of Stocks
a. When a new corporation is organized, its charter must indicate
the maximum number of shares of stock it can issue
b. Authorized Capital
i. The number of shares of common stock that a firm’s
corporate charter allows it to issue
ii. The firm cannot sell more shares than the charter
authorizes without obtaining approval through a
shareholder vote
iii. The Board of Directors, with the approval of the
stockholders and the SEC may amend the Corporation’s
Charter to increase its authorized capital.
c. Issued shares
i. The number of shares that have been put into circulation
ii. The sum of outstanding shares and treasury stock
d. Outstanding shares
i. The number of shares held by the public other than the
corporation itself
e. Treasury stock
i. This refers to reacquired shares
ii. Treasury stock can be re-issued to the public without
obtaining shareholder’s approval
f. Stock can either be common or preferred.
4. Common Stock
a. Corporations issue at least one class of common stock in the
form of shares

Page 1 0
 FINA100 Basic Business Finance
The Stock Market

b. Sometimes common stockholders are called residual owners

because they receive what is left after all other claims on the
firm’s income and assets have been satisfied

5. Features of Common Stock

a. Stock ownership
i. Privately Owned Stock: all common stock of a firm is
owned by a single individual.
ii. Closely Owned Stock: all common stock of a firm is owned
by a small group of investors.
iii. Public Owned Stock: common stock of a firm is owned by a
broad group of unrelated individuals or institutional
investors.
b. Par Value
i. Stated Value: are bookkeeping items only and bear no
relationship to the original price of the common stock.
ii. Book Value: tangible net asset value per share
• If a corporation is to be liquidated, this is the amount
a stockholder is supposed to receive for each share
he owns.
iii. Current Market Value: the price which someone is willing to
pay for each share
• If the shares are listed on an exchange, this is the
last trading price of the share.
c. Pre-emptive Rights
i. Permits the current shareholders, if they so choose, to
maintain their proportionate share of ownership in the
corporation by buying additional shares before selling to
the public.
ii. Prevents the dilution of ownership
• Dilution of Ownership
o results in the dilution of earnings because each
present shareholder has a claim on a smaller
part of the firm’s earnings than previous
d. Voting Rights
i. Each share of common stock entitles its holder to one vote
in the election of directors and on special issues.
ii. Two methods of voting:
• Statutory voting
o A stockholder may vote for every directorship a
maximum number of votes equal to the
number of shares he or she owns.
o Example

Page 2 0
 FINA100 Basic Business Finance
The Stock Market

 If 5 directors are to be elected, a holder

of 100 shares may cast 100 votes for
each of 5 positions to be filled.

• Cumulative voting
o A stockholder may spread his total votes
among the number of positions to be filled in
any manner
o Example:
 A holder with 100 shares may cast all
his/her 500 votes for one candidate (or
200 for one candidate and 300 for
another).
iii. When stockholders cannot attend the annual meeting to
vote they may assign a proxy statement transferring their
votes to another party.
e. Dividends
i. Dividends are declared out of the unrestricted retained
earnings (or accumulated profits) of the company
ii. The Board of Directors of a corporation decides whether
dividends will be declared or not.
iii. Stockholders cannot demand that dividends be paid even if
the company is profitable.
iv. Three types of dividends:
• Cash dividends
o Paid to stockholder in cash
• Stock dividends
o Stockholders are given additional shares of the
company as dividends.
• Property dividends
o Although rarely done, the Board of Directors
may also payout dividends in the form of
assets.
6. Issuing Common Stocks
a. When a firm wishes to sell its stock in the primary market it has
three alternatives
i. Public offering
• It offers its shares for sale to the general public.
• Initial Public Offering
o the first public sale of a firm’s stock

Page 3 0
 FINA100 Basic Business Finance
The Stock Market

ii. Rights offering

• new shares are sold to the existing stockholders
iii. Private placement
• the firm sells new securities directly to an investor or
group of investors
iv. Stock option
b. All securities are initially issued in the primary market
i. Primary market
• Financial market in which securities are initially
issued
• The only market in which the issuer is directly
involved in the transaction.

ii. Secondary market

• financial market in which pre-owned securities (those
that are not new issues) are traded
7. Classification of Common Stock
a. Class A
i. reserved for Filipino investors
b. Class B
i. open to both foreign investors and Filipino investors
c. Both classes have the same privileges and rights; receive the
same amount of dividends.
8. Preferred Stock
a. Another type of equity security is the preferred stock
b. It is called as such because it is senior to or has preference over
common stock as to dividends and claims on assets of the
company in the event of liquidation.
9. Features of Preferred Stock
a. Voting rights
i. Preferred stocks does not usually carry voting rights (to
elect members of the Board of Directors)
ii. However, holders of preferred stock are still entitled to
vote on certain issues affecting the company such as:
• Amendment of the Articles of Incorporation
• Adoption and amendment of the by-laws
• Increase or decrease of capital stock
• Incurring, creating or increasing bond indebtedness
• Merger or consolidation of the corporation with
another corporation or corporations
• Sale, lease, exchange, mortgage pledge or other
disposition of all or substantially all of the company’s
properties.
• Investment of corporate funds in another
corporation, and

Page 4 0
 FINA100 Basic Business Finance
The Stock Market

• Dissolution of the corporation

b. Dividends
i. Preferred stockholder are prescribed a fixed periodic
dividend which is set at a fixed rate of its par value.
c. Restrictive Covenants
i. Aimed at ensuring the firm’s continued existence and
regular payment of the dividend.
10. Types of Preferred Stock
a. Participating preferred stock
b. Cumulative/non-cumulative preferred stock
c. Callable preferred stock
i. Premium
• usually higher than the actual price
d. Convertible preferred stock
i. Conversion Value = conversion ratio x stock price
11. Advantages of a Stock Market
a. Most accessible market
b. Ready market
c. Liquidity of the market
d. Operates in full public view
12. Players in the Stock Market
a. Investors are the ones who buy and sell but they are not the only
players in the stock market.
b. The players are:
i. Stockbrokers
ii. Stock exchange
iii. Transfer agent
iv. Clearing house
• Securities Clearing Corporation of the Philippines
(SCCP)
o Assumes the role of settlement coordinator and
risk manager for broker transactions
o Administrator of the trade guaranty fund
o Clearing and settlement agency for depository
eligible trades in the exchange.
v. Philippine Central Depository (established in March 1995)
• Provides the securities settlement system for both
debt and equity instruments of the Exchange.
• It provides a computerized book-entry-settlement
system which paved the way for the safe and
efficient scrip less trading.
vi. Listed company
• A corporation that offers and lists its shares in the
stock exchange is called a listed company or issuer
• This listed company is also known as the publicly
owned company

Page 5 0
 FINA100 Basic Business Finance
The Stock Market

13. Where Can You Buy or Sell Stocks

a. Stock market
b. Stock exchange
c. Trading floor
14. How Can You Buy or Sell Stocks
a. Choose a stockbroker
i. Should be a member in good standing at the PSE
b. Open a brokerage account
i. This account allows the client to perform stock transactions
anytime
ii. Relatively easy to open
c. Place order with your broker
i. After opening the account, a trader will be assigned to buy
and sell securities at the PSE
d. Settle your transaction
e. Buying and selling transactions are settled by book-entry
f. The account is credited when buying shares, and debited in the
case of selling shares
15. How Can You Make Money in the Stock Market
a. Dividends
b. Capital gains
i. Results from the capital appreciation or an increase in the
market value of the stock you own
c. Combination of dividend income and the capital appreciation
made constitutes the total return
d. Nominal Rate of Return
i. Nominal Rate of Return = capital appreciation + dividend
income
Purchase price of the stocks

Page 6 0