NAME: GUIANG, STEPHEN IVAN L.
SECTION: BSAIS 2B
Activity 1- Final Term (EQUITY MARKET)
1. What is the purpose of equity, equity market and equity instruments?
One of the written purposes given is that equity shares perform an institutional role as a
means of ownership. These are the shares that companies issue to the public or private
market for their source of long-term funding. While Equity Market is the market of equity
shares where issuers and buyers of stocks trade. This is the market where companies that
needed funds notice the public for the issuance of stocks and for those investors who want
to make gains in a company by buying their stocks. While Equity instruments are the
evidence of ownership of the investor in the company—which is indefinite in term and
allows them to vote (depending on the shares) and earn profit by means of dividends.
2. Why does financial distress increase agency conflicts between equity holders and debt
holders?
If financial distress occur then agency problems may increase. As we know agency
problems are conflicts between the personal interest of the owners and the investors. If
there’s a distress, holders may have different perspectives about how should the company
work. Equity holders, having less stock value in distress, may want the company to survive
by investing in different projects and such. By doing this uncertain decision, there’s a
possibility that they can make their money back. But there is also a possibility that the
company’s investment will be a loss, then it is okay for the holders because they lost in the
first place. And the conflict here I guess is that the owners don’t want that to happen
because they want to issue more stocks in the market to gain more funds or because of debt
traps. While debt holders, based on my researches, want the opposite of this scenario.
Because they want to protect their investment in the company by the cash that is intended
for future investments. And as we can see, there’s a conflict between the two sides in this
case: the owners that want to invest for the furtherance of their business and the holders
that want to just use the investment’s cash to distribute them back.
3. What risks do common stockholders take that other suppliers of capital do not?
Since the common stockholders are the owners of the company, they must give way to
other holders first in the firm in paying dividends before them. Their positions are so risky
that they only paid based on the remaining money that was left. And it is also unguaranteed
that they may get enough profit after satisfying all the other holders. On the other hand, if
the value of the company increases, the shareholders are entitled to larger potential benefits,
which may well exceed the guaranteed interest of bondholders.
4. What do you think is the best feature combination of preferred shares? Why?
I think it is the feature of being a debt and equity instrument at the same time. Debt that
whatever happens, the company pays you fixed dividends. And also an equity that the
investment may appreciate based on how the company operates. But the cons of this stock
is that the holders cannot vote and that the issuer can be repurchased by the issuer. It has
this cons because you can’t really have it all.
5. Explain the how the venture capital funds work.
Venture capital funds are long term funds, high-risk/high return, for individuals who want
to start a business. For example, Shane, an individual who invented a solar paneled phone
case that can charge your phone in the sunlight. He then think about the potential of this
invention and in order to build his dream company, he needs a large fund. First, Shane tried
to apply a loan in a bank but then rejected because the bank cannot take the risk. But
someone got his attention and referred him to go to a venture capitalist. This capitalist then
gave him enough money to start the business but in a certain condition that 60 percent of
the company will go to him—a situation that is in favor of the capitalist since technology
today has a great potential to grow so fast. Shane agreed in the terms since this vague
business is too risky and thought that no one will offer him a more pleasing condition.
I have read so many articles about how VC funding works and there’s a process called
SERIES A to C. Series A is where the product is manufactured and available in the market.
This is the part where the customers are escalating so fast. Series B is where the company
is being profitable and forecasting about expansions. While Series C and onwards is the
point where the company has grown up that bigger corporations are planning to buy it;
also, it may be ready for an Initial Public Offering since it is a private company, or just stay
in that sate.
In case of Shane and the capitalist, they managed and stayed in the business for so many
years until they decided to IPO, making their firm on a public stock market. Until their
company lived profitably ever after.
6. Company’s shares are quoted by a broker as bid for P88 and P100. What is the bid-ask spread
in percentage?
Spread = (P100 – P80)/ P100
= 20 / 100
= 0.2 or 20%
7. Company X shares is traded at one of European stock exchanges and its last transaction has
been at P40 per share. An investor entered a limit order to sell the shares at P41 while the
market price was still 40 Euro. Company X shares are also traded on NASDAQ as an ADR.
One ADR represents one fourth of the share (4 ADRs equal 1 share). ADR price is quoted by
a market maker at 10-10.20. Suppose favorable information is disclosed to the market
participants, which drives company share prices to P45. Who are the parties exposed to losses
at the European stock exchange and on NASDAQ if they do not react immediately?
The party that is exposed to losses both in the NASDAQ and ESE are the sellers. Foreign
exchanges are too risky because of the fluctuations. Actually, the quoted price and sell limit
orders exceed the market prices per share. But as the problem stated, at the end of the day
when information was disclosed, the company prices ascended, considering this as a loss
by the company but worrying not because the value of their company is appreciated.
8. If the initial margin is 40%, and you are buying 100 shares at P20/share, how much money
do you have to have to provide?
100 shares x P20 = P2000 x .40 = P800
9. If the price increases to P30, what is the margin now? (see no. 8)
100 shares x P30 = P3000 – (P2000-P800) = P1800/P3000 = 0.6 or 60%
10. If you sell at a price of $30 one year from now and the margin interest rate was 10%, what
was your rate of return? (see no. 8)
P3000 – 1.1 X P1200 – P800/P800 = 1.1 or 110%