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 &
Poor’s 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
Name of Market
Total U.S. Dollar
Market
Total U.S. Dollar Number of Listed
Capitalization
Trading Volume
Companies
1
NYSE Euronext (U.S.)
$9,208.9
$33,638.9
3,011
2
Tokyo Stock Exchange Group
$3,115.8
$5,607.3
2,390
3
NASDAQ OMX
$2,396.3
$36,446.5
2,952
4
NYSE Euronext (Europe)
$2,101.7
$4,411.2
1,002
5
London Stock Exchange
$1,868.2
$6,271.5
3,096
6
Shanghai Stock Exchange
$1,425.4
$2,600.2
864
7
Hong Kong Exchanges
$1,328.8
$1,629.8
1,261
8
Deutsche Börse
$1,110.6
$4,678.8
832
9
TSX Group
$1,033.4
$1,716.2
3,841
10
BME Spanish Exchanges
$948.4
$2,410.7
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:
2000–2008
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
Share
classes
Cumulative
voting
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 firm’s
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
Leveraged
buyouts
Public
Private
investment in
public equity
Equity
securities
INVESTING IN NONDOMESTIC EQUITY
SECURITIES
Direct
investment
Depository
receipts
(DR)
• Buy and sell shares directly in foreign
markets.
•
•
•
•
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
Level I
(Unlisted)
Develop and
broaden U.S.
investor base with
existing shares
Level II
(Listed)
Develop and
broaden U.S.
investor base with
existing shares
Raising capital on
U.S. markets?
No
No
SEC registration
Form F-6
Form F-6
Trading
Over the counter
(OTC)
NYSE,
NASDAQ, or
AMEX
Forms F-1 and F6
NYSE,
NASDAQ, or
AMEX
Listing fees
Size and earnings
requirements
Low
None
High
Yes
High
Yes
Objectives
Level III
(Listed)
Develop and
broaden U.S.
investor base with
existing/new
shares
Yes, through
public offerings
Rule 144A
(Unlisted)
Access qualified
institutional
buyers (QIBs)
Yes, through
private placements
to QIBs
None
Private offerings,
resales, and
trading through
automated
linkages such as
PORTAL
Low
None
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:
1900–2008
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
Increase liquidity
Finance revenuegenerating activities
Mergers and
acquisitions
Ensure going
concern status
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
$8,144,000
 11.9%
($65,010,000  $71,358,000) / 2
$8,104,000
ROE 2008 
 13.2%
($57,556,000  $65,010,000) / 2
ROE 2007 
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?
INVESTOR’S REQUIRED RATE OF
RETURN
Investor’s minimum required rate of
return
Estimate with pricing models:
dividend discount model (DDM),
capital asset pricing model (CAPM),
etc.
Cost of
equity
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 investor’s
required return