Week 3 Project

Securities Market

The value of a �nancial asset is the present value of the cash �ow received from owning, selling, or both. Two
common �nancial assets are bonds and stock. Key equity funding sources are preferred stock, common stock, and
retained earnings.

Equity is a means of funding long-term investments by using owners’ capital. When raising new equity capital in
the primary markets, �rms sell shares of stock to investors. In this case, �rms are raising funds by extending
ownership in the company.

Stocks (or shares) are certi�cates that represent ownership in an entity. Investors purchase stock with the goal of
maximizing rates of return. Investors attain rates of return through dividends and capital gains. Dividends are the
portion of earnings paid to owners as rewards for their investments.

Capital gains represent the percentage of increase in stock price from one period to the next. Capital gains are
“realized” if investors “cash in” on the gains. Investors cash in by selling shares to other investors in the secondary
markets. These gains also can be realized if shares are sold back to �rms in a stock repurchase transaction. If
investors do not cash in, the gains are said to be “unrealized.” Whether realized or not, management must make
gains available by maximizing the �rm’s value.

For stocks, the balance sheet presents the number of shares authorized, the number of shares issued, and the
number of shares outstanding. The statement also presents total par value and total additional paid in capital.

 Number of shares authorized:

Maximum number of shares that can be outstanding at any point in time

Set by the �rm’s board of directors as an attempt to control the degree of ownership in the �rm and
minimize dilution effects on earnings per share (EPS)

This “authorized” �gure is not used in any calculations

Number of shares issued:

Number of shares sold to investors over time

Figure affects the capital contribution made by investors

Number of shares outstanding:

Number of shares in the possession of investors at a given time

Dividend payments are made on shares outstanding

Equity �gures on balance sheet are based upon shares outstanding