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2. Instruments

2.1. Learning outcomes

After studying this text the learner should / should be able to:

• Define the instruments of the equity market.

• Distinguish the types of ordinary shares.

• Describe the characteristics of ordinary shares in terms of residual value, voting rights, elastic dividend and limited liability.

• Appreciate the details of preference in respect of similarities with bonds, types, and usefulness.

• Describe the negotiable instruments representing equity.

2.2. Introduction

The instruments of the equity market are:

• Ordinary shares.

• Preferences shares.

• Negotiable instruments representing equity.

2.3. Ordinary shares

2.3.1. Introduction

This section has to do with the characteristics of ordinary shares. Ordinary shares are the "usual" shares issued by companies (in many other countries called common stock). When the statute relating to companies refers to shares or stock it means ordinary shares or common stock.

The characteristics of ordinary shares covered in this section are as follows:

• Shares with par value, shares with no par value, and share premium.

• Residual value.

• Voting rights.

• Elastic dividend payments.

• Limited liability.

2.3.2. Shares with par value, shares with no par value, and share premium

Most company statutes allow for the issue of shares that have either:

• A par value.

• No par value.

The statute relating to companies of one particular country determines:

"The share capital of a company may be divided into shares having a par value or may be constituted by shares having no par value: Provided that all the ordinary shares or all the preference shares shall consist of either the one or the other."

Assets

Share capital and liabilities

Bank deposits

100

Authorised share capital (3 000 shares of R1 each) Issued (100 shares of LCC1 each)

100

Total

100

Total

100

Table 1: Balance sheet of NEWCO (Pty) Limited (LCC3)

Par value means nominal value or face value, and they all denote that the share has an "original value", or a value when the company was set up, and this amount is printed on the face of the certificate (or computergenerated statement in the case of a dematerialized market). For example, a person may set up company, say called NEWCO, with a share capital of 100 shares of LCC1 each. The accounting entry for this capital is share capital of LCC100 and the counterpart of this, i.e. the asset, is a bank balance of LCC100, as indicated in Table 1.

An example of a share certificate is presented in Box 1 to illustrate this issue. The capital of the company is GBP200 000, made up of 200 000 shares of GBP1 each. GBP1 is the par value of the shares.

Share capital and liabilities

Bank deposits

2000100

Authorised share capital (3 000 shares of LCC1 each) Issued (2 100 shares of LCC1 each) Share premium

2 100

1 998 000

2000100

2000100

Table 2: Balance sheet of NEWCO (Pty) Limited (LCC)

Assuming that NEWCO is successful and the directors decide to issue new shares (from the balance of 2 900 shares left of the authorized share capital of 3 000 shares) to other shareholders, they may issue, say, 2 000 new shares at LCC1 000 each. In this case the shares have an unchanged par value of LCC1, and a premium of LCC999. The company receives LCC2 000 000 for the shares (2 000 shares x LCC1 000), and the balance sheet of the company changes as shown in Table 2 (it obviously ignores all the other balance sheet items).

BOX 1: EXAMPLE OF AN ORDINARY SHARE CERTIFICATE

EXAMPLE OF AN ORDINARY SHARE CERTIFICATE

All statutes relating to companies allow for a share premium. An example follows4:

"Where a company which is not a banking institution in terms of the Banks Act...issues shares at a premium, whether for cash or otherwise, a sum equal to the aggregate amount or value of the premiums on those shares shall be transferred to an account to be called the 'share premium account', and the provisions of this Act relating to the reduction of the share capital of a company shall, except as provided in this section, apply as if the share premium account were paid-up share capital of the company."

Shares may be split into smaller denominations, and the split value becomes the par value. For example, the LCC1 shares referred to above may be split into denominations such as 50 cents or 1 cent or 0.001 cent and so on.

Shares of no par value are shares that do not have a face value. These shares therefore cannot be issued at a premium. In the case of this type of ordinary share the share capital account is styled stated capital account. An example of a statute that allows for this share type follows5:

"The whole of the proceeds of an issue of shares having no par value shall be paid-up share capital of a company and shall be transferred to an account to be called the 'stated capital account'."

It should be apparent that in the case of a new company issuing 3 000 shares of no par value at LCC150 each, its first balance sheet would appear as shown in Table 3.

Share capital and liabilities

Bank deposits

450 000

Stated capital

450 000

Total

450 000

Total

450 000

Table 3: Balance sheet of NEWCO (Pty) Limited (LCC)

 
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