Question

The majority of nonconvertible preferred stock is bought and held by ______ investors.

All else being equal, is a firm more or less likely to purchase preferred stock as an investment if its tax rate increases?

Less likely

Doesn’t matter

More likely

Consider the case of THC Endowment:

THC Endowment is an institutional investor and owns preferred stocks worth a 20% stake in Scorecard Corp. Scorecard Corp. paid out dividends of $197,400 to THC Endowment this year. Scorecard Corp. had issued perpetual preferred stock with a par value of $100 and pays a(n) 9.40% annual dividend. Investors’ required return on Scorecard Corp.’s preferred stock is 12.60%, and the tax rate for both the companies is 45%. Based on the information given, calculate the following:

	Value
The current market price of Scorecard Corp.’s preferred stock is:
THC Endowment tax liability on its dividend income will be:

Scorecard Corp. also issued preferred stock whose dividends varied with the interest rate on the T-bill. Though this feature was intended to keep the price of the stock stable, the fluctuations in the Treasury yields between the dividend rate change dates led to price instability, and several institutional investors reallocated their investments from this preferred stock to other short-term investments.

What kind of preferred stock did Scorecard Corp. issue?

Market auction preferred stock

Adjustable rate preferred stock

Answer 1

Question 1

The majority of non convertible preferred stock is bought and held by ___________ investors.

Answer : institutional

Question 2

All else being equal, is a firm more or less likely to purchase preferred stock as an investment if its tax rate increases

Answer : More likely

Question 3

Current market price of Scorecard Corp.’s

Share price = Prefered dividend / Required rate

Share price = 9.40 /12.60%

Share price = 74.60

Question 4

THC Endowment tax liability on its dividend income will be  =197,400 * 20% * 45%

THC Endowment tax liability on its dividend income will be  =177,66

Question 5

Answer : Adjustable rate preferred stock