educational module shares - börse stuttgart · ordinary shares grants shareholders all property...

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Educational ModuleShares

Educational Module Shares

| 1Lehrerordner Börsenwissen© Baden-Württembergische Wertpapierbörse GmbH2.0

Shares

Individuals and institutional investors (e. g. banks, insurance companies and investment companies) can become shareholders by acquiring shares in a firm that has been incorporated as a joint stock company. In this way they become co-owners of the company. Many of the largest German companies such as Allianz, BMW, Daimler, Deutsche Bank, E.ON, Volkswagen, etc., are corporations and their shares are traded on the stock market.

Initial Public Offering and Trading of Shares

In an Initial Public Offering or IPO, the institution of a public limited company (plc.) decide to offer shares in their company for the first time for sale to private and institutional investors. In an IPO the investors have to pay the issue price for the shares. After the issue the shares are traded at the exchange.

Listing the company´s share on the exchange gives investors the possibility to buy and sell shares of the corresponding company on the exchange on any time. The exchange has the function of bringing together buyers and sellers (see educational modules “Function of the exchange” and “Pricing“). Shares are always subject to price fluctuations on stock exchanges.

Through the new share issue companies gains new co-owners (shareholders) and additional equity. With this equity the companies can make investments to secure their future business success.

Organs of a Corporation

supervisory boardgeneralmeeting

board of directorselects appoints



The shareholders of a corporation come together once a year at the annual general meeting, where they vote on different items on the agenda. The election of the supervisory board is an important part of the meeting. The supervisory board is not determined solely by the shareholders. The employees also appoint representatives from their ranks to the supervisory board. German law requires this so as to ensure a balance of interests on the board. The workers’ nominees to the supervisory board are elected by a separate ballot that takes place before from the general meeting.

The supervisory board performs important functions within a corporation. First, it oversees the functioning of the board of management; second, it is responsible for appointing and dismissing the board of management. The supervisory board’s decisions therefore have a major impact on the company’s development.

The board of management runs the company independently. Depending on the size of the company, the board may consist of several members, each of whom is usually assigned a different area of responsibility. Working closely with the supervisory board, the board of management develops a strategy to ensure its future success.

Common Stock and Preferred Stock

The different types of shares can be distinguished by the different property and legal rights they entail. Ordinary shares grants shareholders all property and legal rights. In contrast, the rights of preferred shareholders are partly restricted. As compensation, however, preferred shareholders have various privileges. Compared to common shareholders, they receive a greater share of the profits, i. e., a higher payout (dividend). In return for receiving a higher dividend, however, preferred shareholders usually forgo their voting rights at the annual general meeting (non-voting stock).1 Perhaps the best-known non-voting preferred shares currently listed on an exchange are from Porsche Automobile Holding SE. In return for giving up their voting rights at the general meeting, Porsche’s preferred shareholders receive a higher dividend than common shareholders.2

1 Cf. Aktiengesetz (AktG), § 139, Paragraph 1.2 Cf. Porsche Automobil Holding SE By-Laws, § 23, Paragraph 4.



Property and Legal Rights of Shareholders

The rights of shareholders can be divided into property rights and legal rights.

Property rights Legal rights

Dividends Right to participate at the annual general meeting

Subscription rights Right to vote at the annual general meeting

Liquidation proceeds Election of the supervisory board

Right to demand information

Right to speak at the annual general meeting

Property Rights

DividendsDividends are the most important property right. Ordinary shares are therefore referred to as equity. The dividend represents the shareholders’ share of the company’s profits. One of the conditions for payment of a dividend is that the shareholders agree to its payment at the annual general meeting. As a consequence of paying out a dividend, the company loses a portion of its financial resources, which must be covered by its retained earnings. Retained earnings are determined by calculating net income. Net income is the positive difference between earnings and expenditure. In a car company, for example, the earnings are the revenue the company makes through selling cars. The costs associated with producing these cars constitute the company’s expenditure. In order to determine retained earnings, statutory legal and other reserves have to be subtracted from net income.

Subscription RightsCompanies require a steady flow of capital to keep their operations going. If their capital requirements are especially high (above all, in cases of pending takeovers or larger investments), they can increase their equity. According to German corporate law (Handelsgesetzbuch (HGB) – § 266), a corporation’s equity is comprised of the following components.



Equity: I. Issued capital (share capital) II. Capital reserves III. Retained earnings: 1. Legal reserves 2. Reserves for own shares 3. Statutory reserves 4. Other capital reserves IV. Retained earnings/Loss carried forward V. Net income/Net loss

German corporations can increase their equity by increasing their share capital through issuing new shares. A capital increase enables new investors to become part of the corporation. Shareholders who already possessed shares in the company before the capital increase, have subscription rights that give them the right to bid for the new shares. Subscription rights thus give existing shareholders the option of continuing to own the same percentage of shares as before the capital increase. A shareholder’s holding of shares in the company decreases if he does not participate in the capital increase. In order to participate in the capital increase, shareholders must pay a fixed price for each newly issued share.

In specific cases, subscription rights can be suspended at the time of a capital increase.3

In case of capital increases amounting to 10 % or less of equity, subscription rights can be suspended without requiring the consent of the annual general meeting (A. G. M.)4, provided the A. G. M. approves the suspension of subscription rights with a majority of at least three quarters of the voting members. The advantages of suspending subscription rights are that capital can be raised immediately and that new shareholders can become part of the company. In the case of capital increases with subscription rights, there is a subscription deadline of 14 days to acquire new shares.

3 Cf. Aktiengesetz (AktG), § 186 Paragraphs 3 to 5.4 Cf. Aktiengesetz (AktG), § 186 Paragraph 3.



Liquidation ProceedsLiquidation proceeds are not considered in the following, since the liquidation (dissolution)of a company is an exceptional occurrence.

Legal Rights

Besides property rights, shareholders also have legal rights. In the context of the annual general meeting, these rights include the right to information, the right to elect the supervisory board, the right to speak, the right to vote and the right to participate.5 The right to information and the right to speak will not be discussed in detail here, as they are rarely exercised in practice as very few shareholders step up to the podium at an A. G. M. and demand information from the supervisory board and the board of management.6

Right to Participate the Annual General MeetingEvery shareholder is entitled to participate at the A. G. M. of the corporation.7 Alternatively, may appoint a representative to the annual general meeting.8 The representative can be a bank, the shareholder’s association, another shareholder or someone the shareholder trusts. The representative must possess a signed power of attorney as legitimation.

Right to Vote at the Annual General MeetingA shareholder’s most important legal right is the right to vote at the annual general meeting. Among other things, shareholders can make use of this right by refusing to discharge the supervisory board and the board of management. Furthermore the right to vote allows shareholders to determine what the company should do with its retained earnings (for example, use it to pay a dividend). Just as a shareholder can instruct banks, shareholder’s associations, other shareholders or a trustee to represent him at the annual general meeting, so he can also ask someone to represent him in voting by giving him a signed power of attorney. Shareholders vote on the individual points on the agenda at the annual general meeting. The exercise of his right to vote gives the shareholder the ability to influence decisions on these points.

5 Cf. Aktiengesetz (AktG), § 131 (Right to Information), § 101 (Nomination of the Members of the Supervisory Board), § 118 (General – Right to Speak and Right to Participate), § 12 (Voting Right).6 The right to speak and the right to information are usually exercised by shareholders’ representatives; in Germany, many by two shareholders’ rights associations, the SdK (Schutzgemeinschaft der Kapitalanleger e.V.) and the DSW (Deutsche Schutzvereinigung für Wert- papierbesitz e. V.).7 Cf. Aktiengesetz (AktG), § 118.8 Cf. Aktiengesetz (AktG), § 134 Paragraph 3 (Voting Rights).



Between the years 2005 to 2008, on average 54.95 % of voting shareholders attended the annual general meetings of companies in the DAX® 30 (i. e., all the corporations that are included in calculating the DAX® index - see educational module “Stock indices“). In 1998, the figure was 60.95 %.9

Therefore, shareholders’ interest in influencing the annual general meeting appears, on the whole, to be on the decline.

Election of the Supervisory BoardThe right to vote also involves the election of the supervisory board at the annual general meeting.10 The members of the supervisory board are not only elected by the annual general meeting. The workers, too, nominate workers’ representatives to the supervisory board.11

DAX® is a registered trademark of Deutsche Börse AG.

9 Cf. Deutsche Schutzvereinigung für Wertpapierbesitz e. V. (DSW): Attendance at the annual general meetings of DAX® 30 companies.10 Cf. Aktiengesetz (AktG), § 101 Paragraph 1.11 Cf. Aktiengesetz (AktG), § 101 Paragraph 1.



Joint Stock Company

Initial Public Offering (IPO)

Organs of a company

Ordinary shares and preferred shares

Voting right at the general meeting No voting right, but generally higher dividend

Property and legal rights

Tradable shares

supervisory boardannual generalmeeting (A. G. M.)

board ofmanagement

elects appoints

Dividends Subscription rights Liquidation proceeds

Right to participate at the annual general meeting Voting right Election of the

supervisory board



1. Technical skills: to be able to explain the IPO and trading of shares

1.1 IPO

Are Luxus Automobile AG’s objectives be achieved through an IPO?

1.2 Trading of shares

The shares have been listed on the stock exchange since the IPO. List the benefits of stock market trading for shareholders as well as for investors who are not yet stakeholders in Luxus Automobile AG.

Luxus Automobile AG is a manufacturer of premium two-seater sports cars (roadsters). The AG has so far only been active in German-speaking countries. Worldwide there is huge demand for the roadsters, especially in emerging economies such as China and India. To meet the demand, Luxus Automobile AG would like to set up worldwide distribution for its roadster. To this end Luxus Automobile AG is planning to approach the stock market.

Six months after the IPO: The shares of Luxus Automobile AG were placed at 20 Euros; they are currently priced at 24 Euros per share. The expansion of the global distribution network is proceeding smoothly. Consequently sales of the roadster have increased by more than 20 % since the IPO.



2. Technical skills: to be able to explain the organs of a public limited company

2.1 Explain the main tasks of the organs of a company

The annual general meeting’s tasks:

The supervisory board’s tasks:

The board of management´s tasks:



3. Technical skills: to be able to distinguish between ordinary shares and preferred shares from different points of view

Put yourself in the position of various interest groups: which category of shares is preferable?

Existing shareholders:

New shareholders who acquired shares at the time of the IPO:

Supervisory board and the board of management(assume that they are not existing shareholders):

Prior to the IPO there were extensive discussions within Luxus Automobile AG about whether to issue ordinary or preferred shares.



4. Technical skills: to be able to explain the payment of a dividend and to calculate its value

4.1 Calculate the company’s net income.

Revenue from cars sold

Material costs

Personnel costs (wages and salaries)

Net income

4.2 Once net income has been determined, the company is obliged to retain part of the earnings. Retained earnings amounted to 2,000,000 Euros. Determine the corporation’s net earnings12 on the basis of net income and the adjustment to retained earnings.

Net income

Adjustment to retained earnings −2,000,000 Euros

Retained earnings

The organs of Luxus Automobile AG decide to issue ordinary shares in order to achieve the highest offer price. Another reason for issuing ordinary shares is the fact that foreign investors are unfamiliar with preferred shares. Luxus Automobile AG wants to target international investors with its IPO.

The automotive group has sold 6,500 cars in the past year at an average price of 45,000Euros. For every car it sells, material costs amount to 25,000 Euros, while personnel costs for wages and salaries amount to a further 17,000 Euros.

12 Cf. § 275 HGB for detailed calculation of net earnings/net loss.



4.3 Calculate the dividend payment per share. Luxus Automobile AG’s share capital is divided into 10,000,000 shares. The annual general meeting accepted the dividend proposal.

4.4 Calculate the amount to be transferred to special reserves.

4.5 Calculate the current dividend per share.

First annual general meeting after the IPO:

One of the items on the agenda is:

Use of net incomeThe supervisory board and the board of management propose using Luxus Automobile AG’s net income for the financial year 2010 (17.5 million Euros) as follows: Payment of a dividend of X Euros on each share.

Variation:Luxus Automobile AG wants to invest in the development of electric engines in order to make a contribution to reducing CO2 emissions and to open up new markets in the future. Developing electric engines requires a lot of money. The supervisory board and the board of management want to pay out only half the net income as a dividend to the shareholders. The other half is to be set aside as special reserves, which will provide liquidity for future investments. The annual general meeting agrees to the proposal of the supervisory board and the board of management.



4.6 As a shareholder would you forgo a dividend or at least part of the dividend, if it meant a significant improvement in the company’s future?

5. Technical skills: to be able to explain subscription rights and to evaluate their exclusion

The supervisory board and the board of management want to increase the capital by 1,000,000 Euros, while suspending subscription rights. Can they legally take this step? Give reasons.

At the last annual general meeting, the executive approved the following clause:

Creation of new authorised capital (capital increase):The board of management is authorised, with the consent of the supervisory board, to disregard the subscription rights of the shareholders. This authorisation is valid only on condition that the new shares to be issued do not exceed 10 % of the share capital, whether at the time they are issued or at the time of exercising this authorisation. Additional information:Luxus Automobile AG’s share capital is 10,000,000 Euros.



6. Technical skills: to be able to evaluate the effects of administration rights

Evaluate the following statements as true or false and justify your answer. Preferred shareholders without voting rights may not attend the annual general meeting.

To be able to exercise their voting rights, shareholders must be present in person at the annual general meeting.

The supervisory board is elected solely by the annual general meeting.

educational module shares - börse stuttgart · ordinary shares grants shareholders all property...

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