Question

Question One
i. The practice of Buyback of Shares is considered a cash management strategy. Discuss (AN: 5 marks)
ii. Critically examine the factors that necessitate the issue of preference shares by companies. (AN: 10 marks)
iii. Most companies in our part of the world prefer to be financed by ordinary capital to preference capital. Discuss

(AN: 10 marks)
(Total: 25 marks

Answer 1

i.) Practice of Buyback of Shares is considered a cash management strategy: -

The above statement is True.

Reason being :-

1.) When the organisation has excess Cash in hand and doesn't have projects to perform, it opts for buy back of shares.

2.) When management feels share price of the company in the market is low. It opts for buy back of shares.

Hence, yes, buyback is a cash management strategy as organisation doesn't have any project in hand and doesn't need cash in hand and must be future prospects are also not looking great for the organisation. In this case, most organisation opts for buyback so that cash goes out and share price also increases as buy back price of shares are usually greater than market price of share and people jump to buy it which increases share price of the company close to buyback price.

ii.) Factors that necessitate the issue of preference shares by companies: -

- Preferred shares are an asset class somewhere between common stocks and the bonds So, they can offer companies and their investors the best of both worlds.

- Companies can get more funding with preferred shares because some investors want more consistent dividends and stronger bankruptcy protections than common shares offer.

- Some companies like to issue preferred shares because they keep the debt-to-equity ratio lower than issuing bonds and give less control to outsiders than the common stocks.

iii.) Most companies in our part of the world prefer to be financed by ordinary capital to preference capital: -

The above statement is True.

Reason being: -

- Ordinary capital gives shareholding right(ownership) in the company and company doesn't have to give any compulsive payment like dividend or interest.

- Ordinary capital involves less risk as company doesn't have to pay compulsive dividend every month and it increases profit of the company.

- Companies issue common shares to public to raise capital for expansion.

- Since equity shares are non-redeemable, they serve as a long-term source of finance for companies.

- The share capital is held by the company throughout and is distributed at the event of winding up.

- The fact equity shareholders avail the residual share during liquidation makes them the actual risk bearers of a company. In fact, it is also a point of origin of the difference between equity share and preference share.

- Equity shares come with voting rights, and its holders are also entitled to receive surplus and claim company assets.

- The company’s management determines the rate of dividend be distributed among such shareholders. Moreover, these shares are transferable and can be transferred without consideration also.