How to sell preference shares
Preference Shares | Cost of preference shares Calculation Examples
welcome to contacts in this lesson we're
going to be looking at preference shares
but here we're going to focus on the
calculation of preference shares we're
going to look at how to calculate the
cost of preference shares as well as the
market price of preference shares and
we'll do this with the help of a few
examples you know other lessons we
looked at the preference shares and we
looked specifically at the types of
preference share so we'd like to check
that one out you'll find the link in the
description below
where are our preference shares
preference shares or otherwise known as
preferred stock shares in the equity of
an entity which entitles the holder to a
fixed dividend amount by the issuing
company this dividend must be paid
before the company can issue any
dividends to its ordinary shareholders
now we also looked at ordinary Sheryl
does not other lessons and we looked at
how to calculate the ordinary shares so
you find the link to that lesson as well
in the description below
even entities dissolved the holders of
preference shares are paid back before
the holders of ordinary shares okay and
we've mentioned that above as well
however unlike ordinary shareholders the
holders of preference shares do not
usually have any voting rights over the
affairs of the entity so what we are
seeing here in short is that there is a
difference between ordinary shareholders
and preference shareholders preference
shareholders receive their dividends
first or receive their dues first and
they receive this usually every here
okay ordinary shareholders do not have
to receive it every year and do not have
to receive it at all the bank depending
on whether that company makes money but
it has voting rights which preference
shareholders do not ever result of
preference shareholders ranking higher
in payment priority preference shares
unless the risky and therefore have a
cheaper cost compared to ordinary shares
so you can see from this that preference
shares are usually cheaper than ordinary
shares because ordinary shareholders
take more risks because they get paid
last while preference shareholders get
paid every period ok and they get paid
before the owners all as I'm paid so
they take less risk there is why you
would expect the preference shares to
cost less than they ordinary shares okay
so let's get into the examples how do
you calculate the preference shares well
that two things were going to look at
here how to calculate the cost of
preference shares and want you to get
the formula for calculating the cost of
preference shares and the second one is
how to calculate the market price of
preference shares so what is the cost of
preference shares how do you calculate
it well here's the formula RP obviously
standing for the cost of preference
shares which is a percentage you get it
by taking the dividend or they return to
the preference shoulder divided by the
market price per share so the p0 you're
seeing there is the current market price
or the market price per share so you're
taking the dividend per share divided by
the current market price per share here
we're looking at preference shares we're
not looking at ordinary share so it's
good to bear that in mind okay and we'll
go through examples to apply this
formula here so you do not have to worry
about it and how do we get the market
price of preference shares whereas the
formula for calculating that one well
you can just see here we are just
switching the formula around to get the
market price of the preference shares we
take the dividend so you can see the
numerator does not change and we divide
that by the required return and remember
the required return here written as RP
okay and there is our get the market
price of preference shares so let's get
into the examples and see how we do
these calculations let's look at the
first one we are told that a company has
two million preference shares at 50
Cent's yielding 10% with a market price
currently 55 cents what is the cost of
preference shares so here we are asked
to compute the cost of preference shares
so here I feel elements that you'll
usually be given or you'll usually see
in a question where you ask to calculate
what the preference shares cost is or
what the preference shares market price
is you will be given what it was bought
at or what the par value is so you
usually be given some times like this
where you have pressure and shares at 50
cents yielding 10% okay so this at 50
cents this 50 cents here is the par
value or the amount at which the
preference shares were issued yielding
10%
okay this 10% here is the dividend okay
is not the yield to maturity or this is
not the cost of the preference share
what we want to have fleet here we are
asked the cost of the preference share
okay so this 10% here is the return that
the preference you all will be receiving
annually okay and we are given obviously
the market price and another market
price is the price at which the
preference share is currently trading at
okay so it's 55 cents here so what is
the first thing that we need to - you
need to calculate the rand value or the
value of the dividend that they will be
receiving cause remember in our formula
we starting with the dividend okay the
cost of the preference share is what we
are calculating and we are starting with
the dividend we'll get the numerator so
we take the par value multiplied by the
percentage that we are given okay so we
know that it's preference shares at 50
cents and there is the par value and we
are given the 10 percent we are told
it's filled in 10 percent so there is
the dividend 10 percent and it's 10
percent of what is the percent percent
of market price or 10 percent of issue
price of par value when it's 10 percent
of par value and it will always be 10%
of the par value so what is the dividend
the dividend a is the 10 percent times
the 50 cents okay 10 percent times the
50 cents and you can see it gives us
five cents that is the dividend that the
shareholders will be receiving now that
we have our numerator we have our
denominator as well we remember we say
that the p0 here is the current market
price which is the 55 cents so we're
going to take the five cents dividends
divided by the current market price
which is 55 cents and we will have the
cost of preference shares which in this
case is nine point one percent okay 9.10
person or if you run it down to nine
percent that is as easy as how you
calculate the cost of preference shares
now let's look at more examples in
various ways they matter but they might
ask you how to calculate the cost of
preference shares we are given here that
we are told here that 1 million
preference shares trading at one R and
20 cents per share issued at Turon per
share with 12 percent per annum fixed
rate of interest what is the cost of
preference shares okay what are the cost
so here again we are applying the same
principles we have the formula up here
the cost of preference shares across the
dividend divided
by the current market price what is the
dividend here the dividend is that
percentage we are given and we're told
it's 12 percent per annum fixed rate of
interest so that is the percentage that
given every year as interest okay or as
a dividend and you multiply that based
on the issue price okay how much it was
initially issued at okay and which one
is it you can try and guess if you guess
the one brand 20 you'd be wrong because
one band 20 is the current market price
because we are told here trading at two
hundred twenty cents per share but if
you guessed to Rend you'd be correct
because it was issued at turin so you're
looking at those keywords here
how much doesn't issue dat or what is
the par value so they might choose
poverty they might say it should end so
it was issued at turin per share with a
12 percent fixed rate of interest per
annum okay so we're going to take the
twelve percent that we given times the
issue price of the share which is to
rent and it gives us 24 cents which is
the dividend per share okay so it's a
dividend so we have the numerator what
is the denominator is the current market
price and we are told that it's trading
at 120 so there is the current market
price so it's going to be the 24 cents
divided by the one run 20 current market
price of the preference share and it
gives us 20 percent so the cost of
preference shares is 20 percent you can
see it's actually very high and the
reason it's highest because it was
bought at Turin but now it has fallen
it's now only worth 1 during 20 so it's
worth one when 20 the outlook on the
company obviously is low that means I
want a higher return if I'm investing in
the company that's why it's 20 percent
but you are given okay
I hope it's making sense and I hope
you're following along here's a third
example okay and what I want you to do
here is to pause the video right here
and attempt this question before you
continue the video and see the answer
okay so you can pause right now and try
it okay I hope you post the video and
you try it out so let's take a look a
company is considering issuing a 10%
preference share with a par value of 87
ran the current the share currently
sells for 95 m and the cost of issuing
the share is 5 r n what is the cost of
the preference share okay so now here we
have something new okay so you may have
battle to attempt it we do not know
about
one here we are told here the new thing
that we have here's the cost of issuing
the share is five rent okay this is also
known as the flotation cost or get the
cost of issuing the preference share so
what you do with this one here we have
the numerator which is the dividend
which does not change we can calculate
that easily is the 10% pressure and
share that we are given so it's a 10%
when we have we have the poverty or the
issue price of the preference share
which is 87 grams so we take 10% of 87
bran and it will give us the dividend
which is a trend 70 cents okay I hope
you got that one correct now what do we
do that denominator which is the current
market price well here's how you do it
you take the current market price and
you deduct any issuing hospital that you
incurred okay I will say that again you
take the current market price remember
that's your usual denominator if we do
not have any issuing cost or would not
have any flotation cost we'll just take
the denominator has the current market
price but if you have the issuing cost
and we have told you at the cost of
issuing the shares five rent or we have
to what is called the flotation cost
that's the term they might use then you
just take the current market price minus
that issuing cost and it should give you
your denominator
you see that's what the one that you'll
put here as P zero okay so let's do that
we have our current market price which
is we are told here that share currently
sells for 95 m and the cost of issuing
is five runs so we'll just take the
current market price of 95 and minus the
five R and cost of issuing the share and
here we have the denominator denominator
which is 95 and minus five end and we
have the numerator obviously which you
calculated is the 8r + 70 dividend
divided by the sum of 95 R + -5 m and
then we get an answer of nine point six
seven percent okay now I hope you
followed this one along as well and you
know what to do with flotation cost or
the cost of issuing the share let's look
at another example over here and I hope
you can attempt this one as well before
you continue the video so you can pause
it and try it and then we can continue
along okay I hope you attempted it let's
look at it eight percent preference
shares trading at 30 grand per share
issued at 25 run per share with a
flotation cost of three percent per
share what is the cost of preference
well we have the formula up here we know
that the dividend is the percentage that
we are given okay
multiplied by the par value of the share
how much it was initially issued at so
we are given 8% here and we are told
that it was issued at 25m so 8% times 25
and gives us to Rend as the dividend or
the annual return to preference
shareholders
so we have our numerator or denominator
we're looking here the current market
price and we are told here trading at 30
grand per share so that's how I
denominator but we have floatation cost
of 3% per share okay so what do you do
with this one here same thing we do like
with the previous one the previous Unruh
given the value or the rent amount here
we're given a percentage so we are
applying the same principle here so
you're just going to take the current
market price minus the current market
price times 1 minus that percentage of
floatation cost okay you can either do
that or you can take the current market
price times hundred minus 3% and you get
97 percent okay so you're gonna take the
current market price of 30 rand times
the 97 percent and there is how you get
it okay so the turin is the numerator
dividend per share divided by the 30
rent and then you open bracket 1 minus
0.03 which is the decimal of 30 percent
and we get the answer of 6.8 7% okay I
hope you followed along if you want the
denominator and you're given the
flotation cost as a percentage then you
can take the current market price open
bracket 1 minus 3rd floatation
percentage and then you will multiply
obviously the 2 and then you will get
the denominator okay otherwise you can
take the current market price of the
preference share times 100% minus 3% and
you should get your answer okay six
point eight seven percent okay so that's
very low in practical sense okay if you
are thinking of investing in a company
you see six point eight seven and that's
extremely low but obviously these are
this is just an example that we are
doing okay let's look at the last
example over here we are told that the
company is considering issuing a 10%
preference share with a par value of 850
right the cost of the preference share
is 8.5%
what is the market price per share and
you can see here what's different
between this one and the previous
examples here we are given the cost of
the preference share which is 8.5% we
are asked to calculate the market price
per share okay which we were given in
all the other examples so remember the
second formula I showed you the current
market price per share equals to the
dividend okay that does not change
because the numerator divided by the
required return or the cost of
preference share okay so what is our
dividend when we are given here 10%
preference share with the par value of
850 or here so obviously multiply the
10% times the 850 to get our dividend
and it's 85 rent okay that's the
dividend and what is our denominator
it's obviously the required return would
use the 8.5% cost of preference share so
if we take the 85 ran divided by the
denominator which is 8.5% we get the
current market price of a preference
share of 1,000 rent okay and that is how
you calculate the cost of the preference
share and the market price of a
preference share I hope you followed
along through these examples and I hope
it was clear enough and I hope you have
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