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Common Stock

In: Business and Management

Submitted By meowmeow2706
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CHAPTER 7
COMMON STOCK: CHARACTERISTICS, VALUATION AND ISSUANCE

ANSWERS TO QUESTIONS:

1. a. Nonvoting stock - common stock that is issued when the firm wishes to raise additional equity capital but does not want to give up voting power.

b. Stock split - the issuance of a number of new shares in exchange for each old share held by a stockholder in order to lower the stock price to a more desirable trading level.

c. Reverse stock split - the issuance of one new share in exchange for a number of old shares held by a stockholder in order to raise the stock price to a more desirable trading level.

d. Stock dividend - a dividend to stockholders in the form of additional shares of stock instead of cash.

e. Book value - total common stockholders' equity divided by the number of shares outstanding.

f. Treasury stock - shares of common stock that have been repurchased by the company.

2. No, the retained earnings figure on the balance sheet is simply the cumulative amount of earnings that have been retained over time. At the time when income is retained, these dollars may be used to purchase additional long-term assets. As a result, the retained earnings amount is not available for current dividends. Current dividends are paid out of cash (or earnings) and not out of retained earnings.

3. Reasons for stock repurchases:

• tax considerations – Under current tax laws, capital gains income is taxed at lower rates than dividend income for individual taxpayers. Also, there is a tax advantage to share repurchases because taxes on capital gains income can be deferred into the future when the stock is sold. (See Chapter 14 for additional discussion of this point.)

• financial restructuring - the firm can gain the benefits of increased financial leverage through the issuance of debt and using the...

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