MODULE 1

1.1 CAPITAL MARKET

A capital market is a place that allows the trading of funding instruments such as
shares, debentures, debt instruments, bonds, ETFs, etc. It is a source for raising funds
for individuals, firms, and governments.
The securities exchanged here would typically be a long-term investment with over a
year lock-in period. On the other hand, short-term investments are usually found in the
money market.
Kindly note the following:

1. A capital market provides individuals and firms with an avenue to raise funds
for their needs and wants. It is of two types – primary
market and secondary market
2. .The market plays a crucial role in economic development. It mobilizes
savings from individuals, banks, financial institutions, real estate, and gold,
thus diverting savings from unproductive channels to productive areas.
3. Commercial banks, financial institutions, individual investors, insurance
companies, business corporations, and retirement funds are the major
suppliers of funds in the market.
4. There are usually long-term investments here, such as shares, shares, debt,
government securities, debentures, bonds, etc. Stock exchanges operate the
market predominantly.

How Does a Capital Market Work?

A capital market assists an economy by providing a platform to gain funds for business
operations, development activities, or wealth enhancement. The functioning of a capital
market follows the theory of the circular flow of money.
For example, a firm needs money for business operations and usually borrows it from
households or individuals. In the capital market, the money from individual investors or
households is invested in a firm’s shares or bonds. In return, investors gain profits as
well as goods and services.
The market comprises suppliers and buyers of finance, along with trading instruments
and mechanisms. There are also regulatory bodies. Stock exchanges, equity markets,
debt markets, options markets, etc., are some capital market examples.

1.2 TYPES OF CAPITAL MARKET

Primary Market
The primary market is for trading freshly issued securities, i.e., first-time trading. It
enables an initial public offering. It is also known as the new issues market.
 
Here, companies raise funds with the help of preferential allotment, rights issue,
electronic IPOs, or the pre-selected issue of securities or private placement. Usually, like
an investment bank, the intermediary attaches an initial price to the shares. Once the
sale materializes, firms take their shares to the stock exchange to facilitate trading
between different investors.
Secondary Market
The trading of old securities occurs in the secondary market, which occurs after
transacting in the primary market. Both stock markets and over-the-counter trades come
under the secondary market. We also call this market the stock market or aftermarket.
Examples of secondary markets are the Philippine Stock Exchange (PSE), the New York
Stock Exchange, NASDAQ, etc.

1.3 ELEMENTS OF A CAPITAL MARKET

Elements of a Capital Market

 Individual investors, commercial banks, financial institutions, insurance

companies, business corporations, and retirement funds are some
significant suppliers of funds in the market.
 Investors offer money intending to make capital gains when their investment
grows with time. In addition, they enjoy perks like dividends, interests, and
ownership rights.
 Companies, entrepreneurs, governments, etc., are fund-seekers. For instance,
the government issues debt instruments and deposits to fund the economy
and development projects.
 Usually, long-term investments such as shares, debt, government securities,
debentures, bonds, etc., are traded here. In addition, there are also hybrid
securities such as convertible debentures and preference shares.
 Stock exchanges operate the market predominantly. Other intermediaries
include investment banks, venture capitalists, and brokers.
 Regulatory bodies have the authority to monitor and eliminate any illegal
activities in the capital market. For instance, the Securities and Exchange
Commission overlooks the stock exchange operations.
 The capital market and money market are not the same. Securities exchanged
in the former would typically be a long-term investment with over a year lock-
in period. Short-term investments trade in the money markets and include a
certificate of deposits, bills of exchange, promissory notes, etc.
1.4 FUNCTIONS OF CAPITAL MARKET

Functions of Capital Market

 It mobilizes parties’ savings from cash and other forms to financial markets.
It bridges the gap between people who supply capital and people in need of
money.
 Any initiative requires cash to materialize. Financial markets are central to
national and economic development as they provide rich sources of funds.
For example, the World Bank collaborates with global capital markets to
mobilize funds to achieve its goals, such as poverty elimination.
 The International Bank for Reconstruction and Development (IBRD) has
assisted over 70 countries by raising nearly $ 1 trillion since the first bond in
1947. Likewise, a report suggested that the European Union companies need
to turn to this market to manage their pandemic balance sheet as banks alone
will not suffice.
 For the participants, the exchange instruments possess liquidity, i.e., they can
be converted into cash and cash equivalents.
 Also, the trading of securities becomes easier for investors and companies. It
helps minimize transaction and information costs.
 With higher risks, investors can gain more profits. However, there are many
products for those with a low-risk appetite. In addition, there are some tax
benefits obtained from investing in the stock market.
 Usually, the market securities can work as collateral for getting loans from
banks and financial institutions.

1.5 DOWNSIDES

Downsides

 Investments in shares and mutual funds are deemed risky as the investment

is highly volatile due to market fluctuations. Therefore, there is a massive
chance of losing money to market risks.
 Market fluctuations risk one’s investments and hinder a fixed income. Those
who are investing their hard-earned savings, such as retired employees and
senior citizens, will prefer the safety of their funds to high earnings.
 With the wide range of investment alternatives present in the market, an
investor may not make a fruitful choice without professional advice.
 Trading of securities may involve a brokerage fee, commission, etc.,
increasing the cost of transactions.
MODULE 2

2.1 PHILIPPINE STOCK EXCHANGE (PSE)

The Philippine Stock Exchange (PSE) is the only stock exchange in the Philippines. 
 Considered one of the oldest bourses in Asia, PSE traces its roots back to the country’s
two former bourses – the Manila Stock Exchange (formed in 1927) and the Makati Stock
Exchange (formed in 1963). The Manila and Makati bourses were unified in 1992 to form
the PSE. 
 The PSE continues to serve and regulate the Philippine equities market with the
objective of maintaining efficiency, fairness, and transparency. At present, the PSE offers
a comprehensive end-to-end roster of services which include listing, trading, market
data, clearing, and settlement.
 From the regulatory, technology, and business aspects of its operations, the PSE
commits to present various opportunities for its ecosystem of investors, issuers, trading
participants, data vendors, regulators, and shareholders; and ultimately, deliver greater
value to the capital markets.    

2.2 PSE’S VISION, MISSION, AND VALUES

Vision
A premier exchange with world-class standards for trading securities and raising capital that
serves as a strong engine for a robust economy.
 
Mission

 Offer products and services responsive to the needs of investors and other
stakeholders.
 Develop a highly motivated and professional workforce, committed to serve and
excel.
 Be a preferred venue for raising capital.
 Operate efficiently to optimize shareholder value.
 Practice and promote good governance within the Exchange and among listed
companies and trading participants.
 Adopt world-class systems and global best practices for an efficient, fair, and orderly
market.
  Provide a facility for fair, accurate, complete, and timely information about listed
companies, while extending market education and awareness programs to
investors.

Corporate Values

 Professionalism in delivering quality service and in meeting the highest standards of

excellence.
 Integrity, transparency, and accountability in implementing business programs and
enforcing decisions.
 Teamwork in working towards a common and favorable goal for the market.
 Mutual respect in relating with fellow employees.
 Inner strength in prioritizing the common good of the market instead of individual
interest.
 Corporate responsibility in promoting market growth hand in hand with community
welfare.

2.3 PSE’s CORPORATE STRUCTURE AND ORGANIZATIONAL CHART

Corporate Structure

Organizational Chart
Board of Directors
2.4 PSE LISTING’S ADVANTAGE

Access to long term CAPITAL

► Raise capital from selling shares available for use in strategic growth initiatives, servicing of
debt, and/or funding of acquisitions.
► The company may return to the stock market for succeeding offerings post-IPO to raise
additional funding.
Enhanced FINANCIAL POSITION
► Increased transparency from market-driven valuation and regular disclosure reporting of the
company contribute to potentially more favorable corporate financing terms from other
sources (e.g., banks, bond market, etc.).
Strengthened LIQUIDITY & VALUATION
► Liquidity and ready valuation of listed securities have a favorable impact on the potential
entry of strategic investors in the company.
► Easier for investors to buy or sell shares of a company that is listed, as these can be done
online or via a traditional broker.
Enhanced CORPORATE GOVERNANCE
► Publicly listed companies are required to comply with strict corporate governance rules and
require greater transparency via regular disclosures to the investing public. This results in a
professionally-run company with a sound management team leading it. It also enhances the
sustainability of a company’s overall operations.

2.5 INITIAL PUBLIC OFFERING (IPO) AND LISTING APPLICATION PROCESS

Initial Public Offering (IPO)

 A private company with a profitable track record raises capital by offering its shares
to public investors.
 Distribution or offer to sell new shares and/or existing shares of a company to the
general public.
 Listing by Way of Introduction Private company applies for listing of securities that
are already issued or securities that will be issued upon listing.
 No public offering is undertaken prior to initial listing either because the company’s
securities are already deemed publicly held, or when listing is mandated by law, the
SEC, or other government agencies.
 Public offering after listing may be required for specific applicants.
2.6 INVESTING PROCEDURE

Investing Procedure 
Step 1: Choose a Broker
Choose a stockbroker. The PSE has a complete list of information about all its trading
participants who are authorized and qualified to trade securities for you. This list is also
available on the PSE’s website and the telephone directory’s Government and Business listings
yellow pages under the category of stock and bond brokers. Aside from representing you in the
stock market, a stockbroker can also offer you services such as access to market
reports/studies, on-time delivery of important documents, and advise on your investments. It is
then important that you trust your stockbroker and that you are satisfied with its services.
Step 2: Open an account
You shall be required to open an account and fill out a Customer Account Information Form and
to submit identification papers for verification. The stockbroker will then assign a trader or
agent to assist you in either buying or selling any listed security. There are also stockbrokers
who have an online trading facility that allows you to post orders by yourself, but sufficient
understanding of how the stock market works is key. If you choose to be assisted by a trader or
agent, you can discuss with him/her what stocks you want to buy or sell.
Step 3: Give your Order
Give the order to your trader, and then ask for the confirmation receipt. Your buy or sell orders
are relayed to the stockbroker’s dealer for execution. In an automated system as in PSE, the
order is keyed in through a trading terminal and automatically matched. Confirmation of done
trades – via phone, email or online – is made as soon as possible and subsequently, an official
confirmation or invoice should be delivered to you.
Step 4: Pay before your settlement date
Pay before settlement date. The delivery or payment should be made before the settlement
date of T+3. For traditional stockbrokers, settlement of transactions is usually done after three
(3) working days from the transaction date. This means that for transactions done on Monday,
as an illustration, payment should be received by Thursday. Meanwhile for online stockbrokers,
settlement of all transactions is done on the transaction date. Settlement of accounts is
performed by the clearing house. 
Step 5: Receive Your Proceeds/Shares
You shall receive from your broker either the proceeds of sale of your stocks (after 3 business
days) or proofs of ownership of stocks you bought (confirmation receipt and invoice). If you
wish to have a physical certificate of the stocks you bought, you can give instructions to your
broker and pay the required upliftment fee. You can purchase shares of stocks either through
an initial public offering (IPO) or through the open market (also referred to as the secondary
market). Shares sold through IPOs are offered for the first time to the public by the company
(primary market) whereby proceeds of the sale go directly to the company. Shares of listed or
publicly traded companies are only bought during trading hours. These shares have since been
transferred from one owner to another and proceeds of the sales do not go directly to the
company but to the owners of the shares.
You’re all set!

2.7 TRADING CYCLE

All equity transactions, whether buying or selling, have a settlement period of T+3 (trading day
+ 3 working days). This means that a seller should be able to deliver the stock certificate, if any,
to his broker and the buyer must have paid the cost of transaction to his broker within 3
working days after the trade was done. Historically, settlement was done manually (27-day
cycle). With scripless trading, wherein settlement is done via the book-entry-system (thru
Philippine Central Depository or PCD), transactions are settled on the third day after trade date.
Under this system, the investor has the option to hold on to his certificate (uplift) or deposit
(lodge) this certificate in PCD through his broker-participant account.

2.8 BOARD LOT SYSTEM

Equity trading is done by board lot or round lot system. The Board Lot Table determines the
minimum number of shares an investor can buy or sell at a specific price range. Therefore, the
minimum amount of initial investment varies and will depend on the market price of the stock
as well as its corresponding board lot. Prices of stocks move through a scale of minimum price
fluctuations.
2.9 BUYING TRANSACTION

Mr. X wishes to buy a stock whose market price is P10.00. Based on the Board Lot Table, the
number of shares he can buy at a regular transaction should be in multiples of 100 shares. In
this case, if Mr. X wants to buy 1,000 shares (which is a multiple of 100 shares) his required cash
outflow will be as follows:

*Broker’s commission varies depending on value of transaction, with a maximum allowable

commission rate of 1.5% (please refer to Table 2 below)
**VAT included
***If a buying client chooses to be issued and maintain a physical certificate in his/her name,
an upliftment/withdrawal fee of P50.00 per certificate issuance request and transfer fee of
P100.00 + 12% VAT will be charged. In the illustration above, the combined
upliftment/withdrawal fee and transfer fee to be paid by the buying client will amount to
P162.00 (P50.00 + P112.00).
2.10 SELLING TRANSACTION
Ms. Y wishes to sell a stock that is trading at P10.00. Based on the Board Lot Table, the number
of shares she can sell at a regular transaction should be in multiples of 100 shares. In this case,
if Ms. Y wants to sell 1,000 shares (which is a multiple of 100 shares), her cash inflow will be as
follows:

*Broker’s commission varies depending on value of transaction, with a maximum allowable rate
of 1.5% (please refer to Table 2 below)
**Stock transaction tax levied on sellers only
***VAT included
****If a selling client has certificates, he/she needs to have this converted into book-entry form
in the PCD system. A cancellation fee of P20.00 + 12% VAT and transfer fee of P100.00 + 12%
VAT will be charged. In the illustration above, the combined cancellation fee and transfer fee to
be paid by the selling client will amount to P134.40 (P22.40 + P112.00).
2.11 TRANSACTION FEES & TAXES

Transaction Fee
The Exchange collects 1/200 of 1% (0.5 basis points) on gross value for every buy and sell
transaction executed. The fee is exclusive of 12% value-added tax (VAT).
Clearing & Settlement Fee
The Securities Clearing Corporation of the Philippines collects 1 basis point on gross value for
every buy and sell transaction executed. The fee is inclusive of 12% VAT. 
Brokerage Commission
A stockbroker is compensated for his services in executing orders on the Exchange through
commission charges, which are paid by both the buyer and seller to their respective brokers.
For trade transactions covering equity and equity-related products, the maximum commission
rate is 1.5% of the total transaction cost plus 12% VAT. The minimum commission rates depend
on the amount of the transaction. (See Table 2)
Upliftment/Withdrawal Fee
If a buying client opts for a stock certificate to be issued in his name, he must make the request
through his broker who will then issue the upliftment request through the PDTC system. Upon
receipt, PDTC will then submit the request to the transfer agent for the issuance of the
certificate. PDTC will charge the broker an upliftment/withdrawal fee of Php50 per certificate
issuance request. The transfer agent will charge their usual issuance fee per certificate on top
of PDTC’s upliftment/withdrawal fee.
Cancellation Fee
If a selling client has physical certificates, he must have the certificates converted into book-
entry form in the PDTC system by requesting, through his broker, for a direct transfer (DT) with
the transfer agent, which costs Php100 (plus 12% VAT) per certificate for the transfer of
ownership of shares to PDTC Nominee Corporation (PCNC).
In addition to the DT fee, a client must pay cancellation fee of Php20 (plus 12% VAT) to the
transfer agent for cancellation of the certificates to be lodged in PDTC (for lodgment of shares).
This is applicable only to listed equities.
Stock Transaction Tax
Sales of equities listed and traded on the Exchange are subject to a stock transaction tax of 3/5
of 1% (60 basis points) of the value of transaction charged to the seller, in lieu of the capital
gains tax. The sale, barter or exchange of shares of stock listed and traded at the PSE are
exempt from documentary stamp tax.
 
Withholding Tax
Under the National Internal Revenue Code of 1997, and except in cases where tax treaties are
in force, dividends received from domestic corporations are subject to a withholding tax of 10%
if the recipient is a citizen or resident alien, 20% if the recipient is a non-resident individual
engaged in trade or business in the Philippines, 25% if the recipient is a non-resident individual
not engaged in trade or business in the Philippines, and 30% if the recipient is a non-resident
foreign corporation. Dividends received by domestic and resident foreign corporations are not
subject to tax. The rate of income tax withheld on dividends paid to a non-resident foreign
corporation may be reduced to 15% if the country in which the non-resident foreign
corporation is domiciled (a) imposes no taxes on foreign-source dividends or (b) allows a credit
against the tax due from the foreign non-resident corporation for taxes deemed to have been
paid in the Philippines equivalent to 15% of such dividends.
MODULE 3

3.1 INVESTMENT IN EQUITY SECURITIES

Investment in equity securities is the best example of financial assets.

Equity securities represent an ownership interest in an entity such as shares of stock and share
rights. The investor (Buying investor) invests in another entity called the investee (selling
investee). 
Fair Value - It is the price that would be received to sell an asset in an orderly transaction
between market participants at the measurement date. Generally, the fair value of the
securities is the quoted price in PSE.      
Using the data of PSE (https://edge.pse.com.ph/companyPage/stockData.do?
cmpy_id=86&security_id=158 (Links to an external site.)), let us check one of the data of
publicly-listed companies:

Based on the stock data of Jollibee Food Corporation:

1. The entity has been enlisted in the PSE since July 14, 1983.
2. The Board lot is 10 shares. Hence, the minimum number of shares to be acquired or
sold is only 10.
3. The par value is P1. The total number of shares issued is 1.128 Billion, the total
number of shares outstanding is 1.111 Billion, and the total number of shares
enlisted in the PSE is 1.123 Billion. Note that the difference between the issued
shares and the outstanding shares are called treasury shares. Can you compute, how
many the treasury shares?
 4. The last trade price of JFC is P200 per share while the average 52-week high is
P259.80 while the average 52-week low is P182.

Let us also analyze the market price of JFC for the past one-year:

What have you noticed in the movements of JFC's market or quoted price in the PSE?

3.2 INCREASE/DECREASE IN THE VALUATION OF THE INVESTMENT

Illustrative problem:                                                               
On June 15, 2020, Mariah Company acquires 300 shares of Jollibee's equity securities. The
purpose is for nontrading. The market price per share is P142.50. 
Requirements:                                                           

1. Compute the total investment cost on June 15, 2020.

2. Compute the increase/-decrease in the change in the fair value of the Investment on
June 15, 2021.
3. Compute the increase/-decrease in the change in the fair value of the Investment on
June 15, 2022.

Solution:
After 2 years, let us analyze the fair value of the Investment in Jollibee Food Corporation:

3.3 DIVIDENDS
Dividends - It is an accretion of wealth on the part of the (buying) investor.
 It is also the return on interest given by the investee/selling investor to the buying investors. It
can be:                    

1. Dividends in the form of income such as cash dividends and property

dividends.                         
2. Dividends in the form of a return of invested capital such as share dividends and
liquidating dividends.                                                

 
Three important dates about Dividends in the form of income:                                                    

1. Date of declaration - The date when the Board of Directors approved the
distribution of dividends. On this date, dividends are earned but not yet received by
the buying investor. The selling investor on the other hand will charge a portion of
its retained earnings.                      
2. Date of record - The date when the stock and transfer book of the corporation is
closed. Only those shareholders registered as of this date will are entitled to receive
dividends.                     
3. Date of payment - On this date, dividends are paid by the investee/selling investor
to the buying investor.                                                  

 Types of dividends:

1. Cash dividends
2. Property dividends
3. Share dividends (stock dividends)
4. Liquidating dividends

 Note: The basis for dividends is the outstanding shares of the company.
Notice that on May 2, 2022, JFC's Board of Directors (BOD) declared a P1.07 cash dividend per
share, for common shareholders as of May 5, 2022, and distributed cash dividends on May 19,
2022.
Further notice, that Jollibee issued aside from common/ordinary shares, issued a variety of
preferred shares.
Preferred shares are given priority as to dividends distribution and liquidation of corporate
assets over common/ordinary shareholders. However, the dividends distribution to preference
shareholders can only be fixed; at the same time, they do not have a voting right. Only
common/ordinary shareholders can vote for the corporation's Board of Directors (BOD).

3.3.1 CASH DIVIDENDS

Cash dividends - The dividends received by the investor, through the share in net income and
the form of cash.                                                              
It can be:

1. Dividend-on - Shares are sold after the date of the declaration but before the date
of record. The purchased share has add-on dividends on
it.                                                
2. Ex-dividend - Shares are sold after the date of record but before the date of
payment. The dividends will be received by the original
holder.                                               

To apply the concepts. Let us solve the illustrative problem and make some accounting journal
entries on it:
Illustrative problem 1:
On September 30, 2021, Marian Company receives a P5 cash dividend per share on its
investments to Dingdong Company of 2,000 shares and costing P200,000.              
The date of record is October 30, 2021, and the Date of payment is December 15, 2021, for
dividends respectively.                                                                 
Assuming, Marian sold the investment to Zia Company, on October 15, 2021, for consideration
of P250,000.

1. From the point of view of Dingdong, who is the shareholder?  Zia                                 

2. What kind of dividend is this? Dividend-on               

                     
Assuming, Marian sold the investment to Zia Company, on November 15, 2021, for
consideration of P250,000.

1. From the point of view of Dingdong, who is the shareholder?  Marian                           

2. What kind of dividend is this? Ex-Dividend               

Illustrative problem 2:

3.3.2 PROPERTY DIVIDENDS

Property dividends - The dividends received by the investor, through the share in net income
and the form of property.                                            
The property can be an investment in shares (shares of another company) and merchandise
inventory. The property dividends are always measured at Fair value.     
Illustrative problem:                                                            
On September 30, 2021, Marian Company receives property dividends on its investments to
Dingdong Company of 5,000 shares and costing P185,000. Each share of Marian to Dingdong is
equivalent to one share of Zia.                                        
The date of record is October 30, 2021, and the date of payment is January 15, 2022, for
dividends respectively.                                                                  
The property dividends are shares of stocks of Zia Company.           
The related fair value of Zia Company's shares are:                                                           
September 30, 2021,   P40                                                 
October 30, 2021,        P42                                                 
December 31, 2021,    P46
January 15, 2022,         P50                                              
How much are the property dividends on September 30, 2021, December 31, 2021, and January
15, 2022?
How much are the property dividends (net of tax)?

3.3.3 SHARE DIVIDENDS

Share dividends or stock dividends - The dividends received by the investor are in the form of
the investee's shares.
Take note: Investee's shares and not shares of another entity.                                                       
Share dividends may be: a) same as those held and b) different from those held.                      
If share dividends are different from those held (e.g. invested on ordinary shares and share
dividends is preference share), the original investment cost is allocated on the original ordinary
share and preference share based on fair value.                                                                          
Share dividends would result in the following:

1. Increase in the number of shares of the investor          

2. A decrease in cost per share of the investment               
3. No effect on Total Investment. Hence, has the same proportionate equity interest in
the entity.       
4. Only a memorandum entry is needed for share dividends.                     

Let us solve the illustrative problems: 

Illustrative problem:                                                            
Marimar Company owns 20,000 shares of Sergio Company, the cost per share is P240.
On December 15, 2019, Marimar Company received 20% share dividends or 4,000 shares.
                                                                       
Requirement 1: What is the related memorandum entry?                                                            
"Received 4,000 shares representing share dividends of 20% on 20,000 original shares held.
Shares now held 24,000 shares".                                                                               
Required 2: Determine new no. of shares, cost per share, and Total Investment cost of Marimar
Company to Sergio Company.                                                          
             
                                      No. of shares   Cost per share               Total Cost                            
Original shares              20,000               P240                                P4,800,000                    
Share dividends            4,000                  0                                        0                         
                                      24,000                 200                                  P4,800,000                            

What have you noticed?

Illustrative problem (Ordinary shares with preference shares as dividends)
Marimar Company owns 20,000 ordinary shares of Sergio Company.
The cost per ordinary share is P240.
The total Investment cost is P4,800,000.                                     
On December 15, 2021, Marimar Company received 20% preference share dividends.          
On that day, the quoted price at PSE of Sergio Company's share:                                 
The ordinary share is P280 and the preference share is P200.                                        
                                                                       
Requirement 1: What is the related memorandum entry?                                                            
"Received 4,000 preference shares representing share dividends of 20% on 20,000 original
shares held. Original Shares held is 20,000 shares. Preference shares held is
4,000".                                                                                            

3.3.4 LIQUIDATING DIVIDENDS

Liquidating dividends – these are dividends in the form of the return of invested capital and is
not income. Hence, Liquidating dividends are not credited to Dividends income, rather credited
to Investment in equity securities that would decrease the investment account.
Related journal entry:                                                   
                                                                                            Debit     Credit                   
                Cash                                                                      xxxxx                                   
                Investment in equity securities                                       xxxxx                   
                                To record liquidating dividends.                

3.4 SHARE RIGHTS (STOCK RIGHTS)

Share rights (Stock rights) - Also called pre-emptive rights or rights issue.                                 
It is a legal right given to shareholders to subscribe to new shares issued by the investee at a
specified period and amount.                                                              
The evidence of share rights is called share warrants.                                                    
Share rights are measured at Fair value (market value) at the date it was received by the
entity.                                                              
At the exercise of the share rights, the purchase price plus the fair value of shares will be added
to the cost of investment.
Illustrative problem:                                                            
On January 1, 2019, Swiss Company purchased 100,000 ordinary shares at P80 per share to be
classified as nontrading through other comprehensive income.       
On September 30, 2019, the entity received 100,000 share rights to purchase 20,000          
shares at P90 per share. The share rights had an expiration date of February 1,
2020.                                     
On September 30, 2019, each share had a market value of P114 and the share rights had a
market value of P6.      
Requirement 3: How much are the cost of the share rights?

Module 4
4.1 Investment in equity securities: Valuation

Looking at the listing process above, in the First step: The preparatory process, we notice that
one of the requirements is the valuation of the company's stock. Hence, before quoted price of
a publicly-listed company's equity securities is available in the PSE, that company should first
value its equity securities internally. We call that process estimating the entity's intrinsic value.
There are two basic models available, namely: the discounted dividend model and the
corporate valuation model.
We will discuss the two models on the succeeding pages.
4.2 Discounted Dividend model
Under the Discounted Dividend model - the value of the equity securities is based on the
present value of the future dividends expected to be generated by the stock.
The mathematical equation would be:

To further understand, let us solve the illustrative problem.

Scenario 1: Dividends distributed are estimated to be distributed by end of the year.
The related data of Thailand Corporation are as follows:                                          
Expected dividends to be paid at the end of the year                                    2.50      
Dividends expected constant growth rate                                                       5% a year
Required rate of return                                                                                       15%      
                                                        
What is the current price per share?      
                                          
Solution:

MODULE 5
4.1 INVESTMENT IN EQUITY SECURITIES: VALUATION

Looking at the listing process above, in the First step: The preparatory process, we notice that one of the
requirements is the valuation of the company's stock. Hence, before quoted price of a publicly-listed
company's equity securities is available in the PSE, that company should first value its equity securities
internally. We call that process estimating the entity's intrinsic value.

There are two basic models available, namely: the discounted dividend model and the corporate
valuation model.

We will discuss the two models on the succeeding pages.

4.2 DISCOUNTED DIVIDED MODEL

Under the Discounted Dividend model - the value of the equity securities is based on the present value
of the future dividends expected to be generated by the stock.

The mathematical equation would be:

To further understand, let us solve the illustrative problem.

Scenario 1: Dividends distributed are estimated to be distributed by end of the year.

The related data of Thailand Corporation are as follows:                                          

Expected dividends to be paid at the end of the year                                    2.50      

Dividends expected constant growth rate                                                       5% a year

Required rate of return                                                                                       15%      

                                                         

What is the current price per share?      

                                          

Solution:

Scenario 2: Dividends distributed data are from last year.

The related data of Mina Company:                                    

The required rate of return                              10%

Dividend distributed last year                   P3.00

Expected growth rate                                 4%

                                          

What is the expected stock price?                                       

                                          

Solution:                    

Scenario 3: Expected future stock price

The related data of Mimi Company:                                    

Expected dividends to be distributed at the end of the year                     P12.5

Expected dividends growth rate                                                                        7%

Required rate of return                                                                                       12%

                                          

What is the stock's expected price 4 years from today?                               

Solution:

Scenario 4: Dividends declining a constant rate

The related data of Mexico Company:                                

Dividends declining constant rate                                         5%

Dividends distribution at the end of the year                   P8.00

Required rate of return                                                           15%

                                          

What is the current price per share?                                   

                                          

Solution:                                        

4.3 EXPECTED DIVIDENDS

Illustrative problem:

The related data of Wales Company:                                                

The dividend per share distributed last year is P10.         

The expected growth of dividends for the next 3 years is 7% and the year thereafter is 5%.

                                                         

What is the expected dividend per share for each of the next 5 years?     

Solution:
4.4 NONCONSTANT GROWTH

Nonconstant growth or supernormal growth is the part of the firm’s cycle in which it grows faster than
the economy as a whole.

Generally, in the firm’s early years, they grow faster than the economy as a whole until they match the
economy’s growth, and eventually grow at a slower rate than the economy.

The horizon date is the date when the growth rate becomes constant.

The horizon, or continuing, value is the value at the horizon date of all dividends expected thereafter. 

Let us solve the illustrative problem, to fully grasp the concept:

The related data of Estonia Company:                                              

Dividends distributed                                                                            P1.25   

Dividends expected growth rate for 2 years                                      20%      

Dividends expected constant growth rate after 2 years                  5%        

Required rate of return                                                                         10%      

                                                         

Requirements:                                            

How far away is the horizon date?

What is the firm's horizon, or continuing value?              

What is the firm's intrinsic value today?

                                                         

Solution:                                                       

The horizon date is the date when the growth rate becomes constant. Hence, it will occur at the end of
the 2nd year.                 
*The required rate of return is used to compute the PV of 1.

4.5 CORPORATE VALUATION MODEL

Also called the free cash flow method.  Suggests the value of the entire firm equals the present value of
the firm’s free cash flows.

Remember, free cash flow is the firm’s after-tax operating income less the net capital investment.

Illustrative problem:

The related data of Prague Corporation:                                          

Expected free cash flow next year                                        P1,000,000.00

Expected growth rate of free cash flow                               5% indefinitely

WACC*                                                                                          10%      
Ordinary shares outstanding                                                  100,000             

                                                         

What is the stock value per share?                                                    

                                                        

Solution:            

*WACC means Weighted Average of Cost of capital

MODULE 5

5.1 NATURE OF INVESTMENT IN DEBT SECURITIES

Investment in debt securities or bond investment.                                                                         

Bonds are a certificate of indebtedness whereby an Issuer (the debtor) borrows funds from an Investor
(the creditor).

The contract of the bonds between the parties is called Bond Indenture.

There are two types of bonds, namely:  Term bonds (lump sum) and Serial bonds (paid on installment).

Let us look at an article on https://www.metrobank.com.ph/articles/learn/ph-bond-

investments (Links to an external site.) to further understand bonds.

What are bonds?

Bonds are passive investment assets. It serves as proof that its issuer (either the government or a private
corporation) has borrowed money from you and they will pay you what you’re owed plus periodic
interest payments over the period indicated on your bonds’ terms.

Let’s say that the government has an infrastructure project that will cost them 50 billion pesos. After the
government exercises all their possible options for funding, they may find that they’re still short of 5
billion pesos. One solution is to issue multiple bonds totaling that amount, but promising to pay it back
after several years plus interest.
 

Individuals, organizations, and even foreign governments can buy these bonds in exchange for the
money the government needs and will be known as creditors or debt-holders. After the specified bond
tenor has passed, the bond matures, and creditors can claim their debt plus the interest that they’re
entitled to.

Types of bonds
Bonds in the Philippines can be classified into two: government bonds and corporate bonds.

Government bonds, also known as sovereign bonds, are either placed up for auction with institutions
that can distribute them further to the retail investors, or sold directly to the general public.

Corporate bonds are those issued by private corporations listed on the stock exchange. Corporations
may issue bonds to investors to expand their business or sustain their operations.

Bond investment risks

 

Compared to investments like stocks and mutual funds where you risk incurring a loss depending on
market conditions, sovereign bonds are considered relatively risk-free, as the risk of the government
defaulting is relatively low.

With the country’s steady economic growth, it’s unlikely that the Philippine government would be
unable to pay its bonds when the time comes.

However, take note that this isn’t an investment that guarantees 100% safety from risk. Major events
like a revolution or a country defaulting due to its huge foreign debt are possible. However, this is
unlikely to happen in the Philippines where growth is relatively stable.

As for corporate bonds, if the issuing company ever goes bankrupt, it will be liquidated to pay off any
remaining debt. Because bonds are considered debt, holders of its corporate bonds will be prioritized –
even put ahead of those holding its stocks.

Advantages of buying bonds in the Philippines

Relatively less risk- Whether you buy Philippine sovereign bonds or corporate bonds, it is a relatively
safer option, because it is much less volatile compared to other forms of investments that can fluctuate
depending on the market trends.

Portfolio diversification- As the saying goes, don’t put all your eggs in one basket. If you’re planning on
investing in multiple investment products, the low-risk features of bonds can offset potential losses that
high-risk investments may incur.

Fixed income- Depending on the type of bonds you buy, interest can be paid periodically, giving you
fixed passive income on top of your other sources of income or revenue.

Better interest income- Other low-risk, interest-based options like savings accounts and time deposits
offer lower interest rates. The income you receive from bonds is much higher compared to the other
two.

Disadvantages of buying bonds

 

There is still a risk of default- As mentioned earlier, buying bonds is not 100% risk-free. It’s unlikely that
the Philippines may undergo a scenario wherein economic growth suddenly plummets and it defaults
due to its debts, but the chance of it happening exists, albeit being remote at this point. As for corporate
bonds, creditors are prioritized over stockholders, but that doesn’t guarantee that you’ll be paid in full
depending on the corporation’s amount of debt upon liquidation.

Opportunity costs- Bonds are the relatively safer option, but there’s no guarantee that they will do
better than high-risk, high-reward investments. In many cases, the gamble investors take on stocks can
greatly pay off. For bonds, the smaller profits (interest payments) are steadier as committed by the
issuer. Typically in normal markets, stocks generally perform better in the long run. But in case of a
recession or a decline in the market, bonds are the better option for those who want to play it safe.

5.2 HOW DO BONDS WORKS

To start investing, you will need a tax identification number (all profits from your bonds are subject to
20% tax), a bank account, and at least P10,000 in capital to buy bonds. You can buy bonds through
different means:

 
Directly from the Bureau of Treasury’s authorized selling agents (you can find announcements of new
bond offerings within the business sections of newspapers when they are issued or announced)

Through brokers in the secondary market (this will entail additional brokerage fees on top of your
withholding tax)

Bond funds. These aren’t exactly bonds, but pooled investment funds by authorized financial institutions
and companies. Your profits come from bond investments, in which the investors’ pooled money was
invested. Examples of these funds include mutual funds and unit investment trust funds.

5.3 BOND VALUATION AT DISCOUNT

The bond's current market price or the carrying value/present value of the investment in bonds is at the
initial investment cost increased by discount amortization or decreased by premium amortization.      

The interest rate indicated on the face of the bonds is called nominal rate or stated rate or coupon rate
while the interest rate available in the market is called effective rate or market rate or yield-to-maturity
rate.

Scenario 1: Investment in bonds at a discount       

The face amount of bonds   > than   Initial cost of bonds   = Discount

Effective rate     > than   Nominal rate      = Discount

Let us solve an Illustrative problem to further understand it.

An amortization table is also needed to compute the carrying amount or the market price of the
investment in bonds at a certain period. 
Interest received = Face amount * Nominal rate

Interest income = Carrying amount * Effective rate

Amortization = Interest income less Interest received

Carrying amount, ending = Carrying amount beginning +Discount amortization or -Premium

amortization.

Notice: The total interest income is equivalent to the difference between the face amount and quoted
price.

If the present value/carrying amount/current market price of the bonds is not available, you can
compute it using this formula:

 If the problem is silent, use 4 decimal places for the PVF

 The formula of the Present Value in an Ordinary Annuity (PV OA):
5.4 BOND VALUATION AT PREMIUM

If the Face amount is less than the Current bond's carrying amount/Present value/market price then
there is a premium.

Similarly, if the Nominal rate is greater than the Effective rate then there is also a premium.

Illustrative problem:

*Again, the interest income on December 31, 2022, which is the end term of the bond is a work-back to
ensure that the total amortization equals the P108,344 premium.

*80,000-19,417.67=60,582.33
MODULE 6

6.1 NATURE OF INVESTMENT IN BONDS

Let us revisit Module 5:

Bonds - It is a certificate of indebtedness whereby an Issuer (the debtor) borrows funds from an Investor
(the creditor).                                                               

The contract of the bonds between the parties is called Bond Debenture.                  

              

Type of bonds: 

Term bonds (lump sum) or Serial bonds (paid on installment);                                                    

Secured bonds (real estate mortgage / pledged with immovable assets) and

Chattel mortgage (pledged with movable assets) or Unsecured bonds;                                                 

Registered bonds (bondholder on the book of a corporation) or Coupon / Bearer bonds (unregistered);

Callable bonds (redeemable) and Convertible bonds (right to exchange for shares).          

Under this module, we will focus on serial bonds and callable bonds.        

6.2 SERIAL BONDS AT A PREMIUM

Investment in Serial bonds is paid by the issuer on an installment basis to the buying investor. The issuer
on the other hand will recognize the bond issued as serial bonds payable.

Under serial bonds, the collection by the investor includes not just the interest but also the maturing
principal portion. On the other hand, the issuer of the bonds will pay not just the interest but also the
maturing portion of the principal.                                                                       

Hence, in getting the present value, you need to get both the present value of the principal and the
interest received.                                                                                   

                                                                                     

Let us solve the illustrative problem to fully comprehend the concept.

(Bonds at a premium):                                                                          
On January 1, 2020, Celine Company acquired bonds issued by Mariah
Company.                                                                                 

The related data are as follows:                                                                        

Face amount                                                               P750,000                                                       

Nominal rate                                                               11%                                                 

Effective rate                                                              10%                                                 

Date of issue                                                               January 1, 2020                                           

Annual payment every December 31                     P250,000 (for the principal)                                       

Interest is payable annually                                     December 31                                               

Present value of 1:                                                                                 

One period                                                                  0.9091                                            

Two period                                                                  0.8264                                            

Three period                                                               0.7513                                            

                                                                                     

Requirement 1: Compute the Present value/Current market price of the investment in serial bonds.        

Solution:

From the above data, after computing the present value of the bonds payable, it is then compared to its
face amount.

Any difference will be treated as a Discount or Premium.

Requirement 2: Prepare an Amortization table.

*Unpaid face value multiplied by the nominal rate equals interest received.

**750,000*11%=82,500

***Beginning carrying amount multiplied by the effective rate equals interest income.

****762,813.50*10%=76,281.35

*****Beginning carrying amount less premium amortization less principal collected equals ending
carrying amount.

*****762,813.50-6,218.65-250,000=506,594.85

******The end of the term interest income only work-back. The total amortization equals the premium.

6.3 SERIAL BONDS AT A DISCOUNT

Illustrative problem (Bonds at discount):                                                                                     

On January 1, 2020, Janet Company acquired bonds issued by Michael

Company.                                                                                 

The related data are as follows:                                                                        

Face amount                                                 P750,000                                                      

Nominal rate                                                 8%                                                   

Effective rate                                                10%                                                 

Date of issue                                                 January 1, 2020                                           

Annual payment every December 31       P250,000 (for the principal)                                    

Interest is payable annually                       December 31                                               

Present value of 1:                                                                                 

One period                                                    0.9091                                            

Two period                                                    0.8264                                            

Three period                                                 0.7513                                            

                                                                                     
Requirement 1: Compute the Present value/Current market price of the investment in serial bonds.         

Solution:                                                       

Requirement 2: Prepare an Amortization table.               

Can you identify the difference in treatment between a discount and a premium?

6.4 INVESTMENT IN DEBT SECURITIES AT RETIREMENT OR REDEMPTION

Bond investments can have derecognition through early retirement or redemption or selling a portion of
the bonds. These are callable bonds.

The Sales price/Redemption price/Retirement price is compared to the latest carrying amount to arrive
at a gain or loss on sale:                                                

Sales price                                                                         xxxxx                   

Less: Carrying amount at the date of sale                     xxxxx                   

Gain or loss on sale                                                           xxxxx                   

 To apply the concepts, let us solve the illustrative problem:        

  *Redemption price or Selling amount