8.1 Stocks: An Introduction

Why might a business owner sell stock to outside investors?

• to raise money for expansion

• to maximize control over the firm's operations

• to minimize the need to generate a profit consistently

• both to raise money for expansion and to maximize control over the firm's operations

A midsize firm plans to issue 10 million shares during an IPO. The investment banker (underwriter) plans to sell shares at $22.50; however, many investors believe the company should be valued at $32.00 per share. If the underwriter charges a $3 million fee to undertake the IPO, how much will the firm raise in the IPO?

• $320,000,000

• $317,000,000

• $225,000,000

• $222,000,000

Answer explanation

To determine how much capital is raised, multiply the IPO issue share price by the outstanding shares and then subtract the underwriter’s fee.

$22.50 x 10,000,000 = $225,000,000 - $3,000,000 = ?

Stock of Terry Motors, Inc. was recently traded on a stock exchange as $108 bid. The spread price was $2. What was the ask price?

• $106

• $108

• $110

• $112

Answer explanation

The bid price ($108) indicates how much another investor will pay a current shareholder for stock. The ask price indicates the price an investor will sell stock to another investor. The ask price is always higher than the bid price. In this case, add $2 to the bid price to arrive at the answer

Your next-door neighbor owns a local restaurant. She currently has gross sales of $13 million. Her expenses, which include ingredients, rent, and personnel, run $11.5 million. What is her net profit or loss?

• $1.5 million loss

• $1.5 million profit

• $11 million profit

• $13 million loss

Your next-door neighbor owns a local restaurant. She currently has gross sales of $13 million. Her expenses, which include ingredients, rent, and personnel, run $11.5 million. You neighbor is considering bringing in outside investors. She would like to issue 2 million shares of stock and sell the stock for $25 each in an IPO. If she does this, how much would someone who purchases one share earn? In other words, what is the earnings per share for the company?

• $0.03

• $0.06

• $0.25

• $0.75

Answer explanation

First, calculate net profit ($13,000,000 - $11,500,000)

Next, divide $1,500,000 by the 2,000,000 million shares to arrive at the earnings per share (you may need to estimate)

The primary way stock investors make money is through:

I. capital gains

II. dividends

III. interest

• I only

• III only

• I and II only

• I and III only

Which of the following is TRUE if Nick purchases 100 shares of an IPO of $35 per share and sells the shares for $40 each? (Refer to the capital gain discussion from a previous chapter if needed)

• she will have 5% capital gain

• she will have 14% dividend

• she will have $500 capital gain

• she will have$5 dividend per share

Answer explanation

First, determine Nick’s profit or loss per share

Multiply the profit by the number of shares sold to arrive at the amount of the capital gain

Nevada Copper Company, Inc. reported a net profit of $8.00 per share and a dividend of $3.50 per share. If you buy shares of the stock at $93.25 per share, what is your dividend yield?

• 43.75%

• 12.33%

• 8.58%

• 3.75%

Answer explanation

The dividend yield is based on dividing the current dividend by the share price.

Your next-door neighbor owns a local restaurant. She currently has gross sales of $13 million. Her expenses, which include ingredients, rent, and personnel, run $11.5 million. If you purchased 100 shares of your neighbor's company stock at the IPO price of $25 per share, what would be your dividend yield?

• 1%

• 4%

• 8%

• 14%

Answer explanation

The dividend yield is based on dividing the current dividend by the share price

To have equity in a company means that:

I. you have lent money to the firm

II. you receive dividends when distributed by the firm to all shareholders

III. you have an ownership interest in the firm

• I only

• III only

• I and II only

• II and III only