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CHAPTER 8 OVERVIEW OF EQUITY SECURITIES

Presenter Venue Date

EXHIBIT 8-1 COUNTRY AND REGIONAL CONTRIBUTIONS TO GLOBAL GDP AND EQUITY MARKET CAPITALIZATION (2007)

Source: MacroMavens, IMF World Economic Outlook 2008, Standard & Poors BMI Global Index weights.

EXHIBIT 8-2 EQUITY MARKETS RANKED BY TOTAL MARKET CAPITALIZATION AT THE END OF 2008 (BILLIONS OF U.S. DOLLARS)
Rank 1 2 3 4 5 6 7 8 9 10 Name of Market NYSE Euronext (U.S.) Tokyo Stock Exchange Group NASDAQ OMX NYSE Euronext (Europe) London Stock Exchange Shanghai Stock Exchange Hong Kong Exchanges Deutsche Brse TSX Group BME Spanish Exchanges Total U.S. Dollar Market Total U.S. Dollar Number of Listed Capitalization Trading Volume Companies $9,208.9 $3,115.8 $2,396.3 $2,101.7 $1,868.2 $1,425.4 $1,328.8 $1,110.6 $1,033.4 $948.4 $33,638.9 $5,607.3 $36,446.5 $4,411.2 $6,271.5 $2,600.2 $1,629.8 $4,678.8 $1,716.2 $2,410.7 3,011 2,390 2,952 1,002 3,096 864 1,261 832 3,841 3,576

Source: Adapted from the World Federation of Exchanges 2008 Report (see http://www.world-exchanges.org).

EXHIBIT 8-3 REAL RETURNS ON GLOBAL EQUITY SECURITIES, BONDS, AND BILLS DURING 1900-2008

Source: E. Dimson, P. Marsh, and M. Staunton (2009)

EXHIBIT 8-6 INTERNATIONAL COMPARISONS OF STOCK OWNERSHIP IN SELECTED COUNTRIES: 20002008


Australia Direct/Indirect Canada Shares/Funds Germany Shares/Funds Hong Kong Shares New Zealand South Korea Shares Switzerland Shares/Funds Sweden Shares U.K. Shares/Funds U.S. Direct/Indirect 2000 52% 49 19 22 24 7 34 22 26 N/A 2002 50% 46 18 20 N/A 8 25 23 25 50 2004 55% 49 16 24 23 8 21 22 22 49 2006 46% N/A 16 N/A 26 7 21 20 20 N/A 2008 41% N/A 14 22 N/A N/A 21 18 18 45

Source: Adapted from the 2008 Australian Share Ownership Study conducted by the Australian Securities Exchange (see http://www.asx.com.au). For Australia and the United States, the data pertain to direct and indirect ownership in equity markets; for other countries, the data pertain to direct ownership in shares and share funds. Data not available in specific years are shown as N/A.

COMMON SHAREHOLDERS

Ownership interests Residual claimants

Share in the operating performance of the company.

Claim on assets after all liabilities have been paid.

Governance Voting rights on major corporate decisions. participants

VOTING RIGHTS
Statutory voting

Vote by proxy

Voting rights

Cumulative voting

Share classes

EMBEDDED OPTIONS

Callable common shares

Putable common shares

PREFERENCE SHARES (PREFERRED STOCK)


Rank above common stock for dividend payments and liquidation claims

Shareholders do not share in the firms operating performance


Generally do not have voting rights Dividends are fixed and typically higher than common dividends

DIVIDENDS ON PREFERENCE SHARES

Cumulative

Noncumulative

Participating

Nonparticipating

POSSIBLE ADVANTAGES OF CONVERTIBLE PREFERENCE SHARES Earn a higher dividend Opportunity to share in profits Benefit from a rise in the price of the common shares Price is less volatile than the common share price

PRIVATE EQUITY SECURITIES

Venture capital Private Equity securities

Leveraged buyouts Private investment in public equity

Public

INVESTING IN NONDOMESTIC EQUITY SECURITIES

Direct investment

Buy and sell shares directly in foreign markets.

Depository receipts (DR)

Global depository receipts (GDR) American depository receipts (ADR) Global registered share (GRS) Basket of listed depository receipts (BLDR)

EXHIBIT 8-16 SUMMARY OF THE MAIN FEATURES OF AMERICAN DEPOSITORY RECEIPTS


Objectives Level I (Unlisted) Develop and broaden U.S. investor base with existing shares No Level II (Listed) Develop and broaden U.S. investor base with existing shares No Level III (Listed) Develop and broaden U.S. investor base with existing/new shares Yes, through public offerings Forms F-1 and F6 NYSE, NASDAQ, or AMEX Rule 144A (Unlisted) Access qualified institutional buyers (QIBs)

Raising capital on U.S. markets? SEC registration Trading

Form F-6 Over the counter (OTC)

Form F-6 NYSE, NASDAQ, or AMEX

Yes, through private placements to QIBs None Private offerings, resales, and trading through automated linkages such as PORTAL Low None

Listing fees Size and earnings requirements

Low None

High Yes

High Yes

Source: Adapted from Boubakri, Cosset, and Samet (2008): Table 1.

RETURN CHARACTERISTICS OF EQUITY SECURITIES


Dividend income Price change (capital gain) Foreign exchange gains or losses Reinvested dividends

EXHIBIT 8-17 IMPACT OF REINVESTED DIVIDENDS ON CUMULATIVE REAL RETURNS IN THE U.S. EQUITY MARKET: 19002008

Source: Dimson, Marsh, and Staunton (2009).

METHODS FOR ESTIMATING RISK AND RETURN

Historical data
Average rate of return Standard deviation

Probability distribution of possible returns


Expected return Standard deviation

PREFERENCE SHARES ARE LESS RISKY THAN COMMON SHARES

Priority claim on income

Fixed dividend

Known liquidation value

EMBEDDED OPTIONS AND RISK


Higher risk: Callable Nonputable Noncumulative Lower risk: Noncallable Putable Cumulative

WHY ISSUE EQUITY?

Raise capital
Finance revenuegenerating activities Ensure going concern status

Increase liquidity
Mergers and acquisitions Stock-based compensation

GOALS FOR MANAGING EQUITY

Increase book value Maximize market value

Increase net income Retain more earnings Issue shares

Manage investors expectations

ACCOUNTING RETURN ON EQUITY (ROE)


Financial Year Ending 31 Dec 2008 31 Dec 2007 31 Dec 2006 Pfizer Net income Total stockholders equity $8,104,000 $57,556,000 $8,144,000 $65,010,000 $19,337,000 $71,358,000

NIt ROE t BVE t BVE t 1 / 2 ROE 2007 ROE 2008 $8,144,000 11.9% ($65,010,000 $71,358,000) / 2 $8,104,000 13.2% ($57,556,000 $65,010,000) / 2

MARKET VALUE, BOOK VALUE, AND PRICE-TO-BOOK RATIO


Market price Total shares outstanding Total shareholders equity Total market value of equity Pfizer $16.97 6,750,000 $57,556,000 $114,547,500

Market value of equity = Market price per share Shares outstanding Market value of equity = US$16.97 6,750,000 = US$114,547,500
Book value of equity per share = Total shareholders equity/Shares outstanding Book value of equity per share = US$57,556,000/6,750,000 = US$8.53 Price-to-book ratio = Market price per share/Book value of equity per share Price-to-book ratio = US$16.97/US$8.53 = 1.99

THE COST OF EQUITY

Company wants to raise equity capital

Company not contractually obligated to shareholders

What is the cost of equity?

INVESTORS REQUIRED RATE OF RETURN


Investors minimum required rate of return

Cost of equity

Estimate with pricing models: dividend discount model (DDM), capital asset pricing model (CAPM), etc.

SUMMARY
Types of equity securities Importance and relative performance of equity securities Ownership characteristics and voting rights Investing in nondomestic equities Risk and return characteristics Market value and book value Cost of equity, (accounting) return on equity, and investors required return