 Thanks Michael and hello again everybody. As Michael said this is going to be unit 4 of our financial management course and so as always let's just take a quick review of the course learning objectives that apply to this unit. We've talked about a couple of these before but again just a reminder that one looking for you to have an ability to actually demonstrate a degree of accounting and financial literacy. Which means that you can talk about and discuss what's going on in the financial system of your company. The ability to apply the results of financial analysis specifically to making decisions to make a determination on how well you're doing and whether changes are required. And last we touch base on capital last week to calculate the cost of a firm's debt and equity. Otherwise known as their capital plan or the debt to equity ratio. There's a cost to the money we use and we'll be talking a little bit about that and some of the topics we're going to cover today. The course layout again consists of 7 units and prior presentations we covered the first 3 today we're covering unit 4 or talk about the idea of risk and return which is a basic and critical discussion point for any time you're looking to make an investment. Now we have learning objectives for each of the units and so for unit 4 here's the objectives that we have and that we think are important and the material relates to these objectives explain why accepting greater risk requires an expectation of greater return. The greater the risk the greater the return you want to make. Recognizing the impact that interest rates have on investment financing. Remember interest rates are the cost of debt and so it does have a direct impact on potential returns for an investment. Calculating the risk of an investment will find this is not an exact science but there are things we can do to at least identify and perhaps do some analysis of what kind of risk are we accepting with an investment. Well take a look at how firms evaluate risk in their investment decisions. Excuse me we'll talk a little bit about stocks and how they're valued after all stocks are representation of how the market views the how well the firm is performing. Now the financial topics that we'll talk about for unit 4 are these and we'll talk about financial risk specifically measuring risk. We'll talk about a couple of specific kinds of risk that's the market risk and the firm specific risk. Both are important there is a distinction between the 2. We'll talk about a risk premium and one way we can look at positionary ourselves to achieve a desired return given an amount of risk that the firm is taking. Touch base briefly and stocks just a brief overview of the difference between preferred in common stock the implications for those shareholders what it means to the firm and then one of the things that plays a part in somebody's decision to invest in a firm could also be their dividend policy is the firm paying dividends to the pay dividends regularly dividends increasing over time. So there's a lot to a lot to review this morning and so before I get started let me just pause and see if there are any questions from topics that we covered previously or before I get started on risk. Great. So there there is a little problem with listening to Michael who's controlling our video today. So I'll just step in for him and say that if you have any questions you can leave them into the chat if there are questions on prior units or as we go through this today if we don't get your question during the presentation. We will get back and answer those questions so please feel free to leave those. So going forward. Let's talk and open up the discussion on the idea of risk. We're all familiar with risk. We're familiar and risking our in our day to day lives. We make an investment and there's a potential that we're looking to get something back from that investment. Couple simple examples that are maybe applicable to our audience today. You make an investment by studying or not studying for the final exam. What's the expected return? Well I'm guessing you'd looking to pass the course and the risk not getting a passing grade. The amount of investment you make equated to the amount of time you put in how many minutes and or hours are you studying for the exam and it has a direct impact on the potential results or one of my personal favorites you purchase a health club membership. Why we're expecting to maybe get some weight loss and improve physical conditions. The risk of that investment of course is you don't achieve weight loss and or your physical condition does not improve. So we're all kind of used to the idea of risk and expected return. Let's talk about financial risk. In a business decision we're going to invest money for some future gain. How do we define financial risk and I've mentioned this in prior discussions it's worth repeating. Financial risk is the potential that the actual return on the investment you make will be less than the expected return. Now think about this for a minute because it's important. Let's assume that you're going to make an investment in a project and you have an expected return of 8%. Now maybe that 8% is simply the amount of return required for you to break even. Not even get ahead but you're going to break even on this investment. Well the risk of that investment is that the actual return is less. And in this case it could represent a loss or suppose your expected return is 8% and that's a couple of percent over the cost of your investment and the return is 10. Well you're doing better than the expected rate but that's financial risk. It's that what actually occurs isn't what you wanted to occur or isn't what you expected to occur. Now when we talk about taking risk there's a range of how much risk people and or firms are willing to accept. We've got folks that are risk seeking. They will prefer investments that have more risk. Why because they have expectations of return. Consider you there is a new mine open up they believe that there's a potential that they will find gold in that mine. You make an investment. It could be that you're going to invest a lot of money but your expectation of return is very great. Why because there's a lot of risk here. They could wind up getting into the mining operation and find out there is no gold. We have people that are risk neutral. In this case they'll consider investment opportunities with greater or less degrees of risk. They're going to evaluate an opportunity and make determinations on a case by case basis. And then there are some who are actually risk adverse. We're not looking to take any risk. Now this doesn't mean this is not bad. It's a matter of evaluating what your financial position. So let me give an example that maybe some of you can relate to. As you are younger and starting out in your careers you may be willing to take more risk in making investments because you're looking to maximize your return. And you know that you have time to recover if your return is not what you expected. As you get older as you get towards retirement and you're looking to just ensure that you have a steady flow of income you may not be looking to make investments that are very risky. And so we might look to make investments that are risk free or they carry little to no risk. Okay. Hopefully that makes sense. Businesses are the same. Companies that have a good amount of cash ready to invest. They are financially sound might be willing to take more risk for investment projects because of the position they're in. Less so if the company is facing any financial difficulties. Okay. So let's talk just a second about this idea of risk free investing and is there such a thing. Well nothing in life is 100% guaranteed. But from an investment standpoint we do know that there are some things we some places we can put our money that are relatively risk free. For example I can invest some of my money every month into a savings account at a local bank saving money for the future. That's relatively risk free. Unless there's an overall bank crash which happens infrequently then my money is probably secure. I can also invest in T bills or T bonds that are issued by the United States government. These are issued by the U.S. Treasury. They have a guaranteed interest rate. All right. A guaranteed dividend to be paid at some point in the future or over time. And we consider that to be relatively risk free given the history and the stability of the U.S. Treasury. Now because these are risk free going back to the rule of the greater the risk the greater the expectation of return. There's no great expectation of return on these investments. Savings accounts may pay a couple of percent a year. Your money's safe. You're earning a little bit but you're not making any great return. And you're going to find the same thing with T bills and T bonds because they are secure and because they're guaranteed. Typically the rates that are earned are less than you would expect in the general market. OK. So that's what we consider risk free investing. The reason this is important is when we consider a company making an investment. It starts with the fact that they've identified that there is cash available in the firm. So we have a million dollars that we can invest. We have two things that we can do here. The firm can make a decision to take that million dollars and make a risk free investment and get a certain percent of return. Or they can invest in a new project a new product line new equipment with an expectation of a higher return. But obviously because it's new it's riskier. And so the firm just like an individual makes a decision at that point on whether or not how much risk they are willing to take. Should they stake with something that is risk free or assume more risk with their investment. Now there's 2 basic kinds of risk that I just want to touch base on this morning. One is market risk. Consider the market the overall market of stocks that are publicly traded and available for you to purchase and put in your portfolio. The market risk is systematic. And by that I mean that general risks that affect the entire market not individual to a unique investment or unique business. Consider things like oil prices rise. And as oil prices rise there's an impact on crossover transportation everywhere which can affect every business and that's going to have an impact on the overall market risk or what the market return is. So one thing we think about especially if we have shareholders is that shareholders obviously can invest or divest in the market. If you have a portfolio of stocks there's an expectation of what the market is returning for you today. One way to attract investors or to perform better for our investors is to invest in projects with an expectation of return that's greater than what the market is returning. That's giving our investors more than what they could get in the general market. And that's market risk. The other type of risk and specific to investors is firm specific risk. This is unsystematic and that means that it's unique to a firm a company or it could even be an industry. But it's not the overall market. So a firm has firm specific risk. If when Apple goes out and advertises they're launching the next the next version of the iPhone. There's a market risk firm specific risk to them because they tend to release a new product every year or so. And depending on how the market views what's new in the new iPhone it may or may not meet sales expectations. So a new product offering may or may not be accepted by the marketplace. Now a shareholder does have a way to reduce the impact of firm specific risk. And that's the concept of a diversified portfolio. So let's step back a minute and go into stock investing one on one. A portfolio is simply your collection of stocks that you've invested in. Now you could have built a portfolio where you've invested all of your money in energy producing companies. Or in my world you've put all your eggs in one basket. That is not a diversified portfolio because if something happens to the energy sector your entire portfolio is impacted. A diversified portfolio says you actually pick choose and select a variety of stocks from different industry segments different markets different sizes. So what you're doing is you're spreading the risk of any one company over the potential risk of your portfolio. Now at this point I hope I haven't lost anybody but I will say that there is a ton of information online regarding market portfolios and diversified portfolios. For those that want to get a tad more specific know that you can actually take your portfolio of stocks at any given time and you can do a weighted average analysis of the returns of each stock looking at the percentage of each stock that makes up your portfolio and you can actually calculate the weighted average return of your portfolio. This becomes interesting if in fact you note that your return on your portfolio or the risk is increasing or the return is decreasing. That's a good indication that it's time to rebalance your portfolio. Now before I leave this remember that we talk about investors. Excuse me. Individual investors having a portfolio. Well companies have a portfolio of investments as well. Think about a major firm. Some of the companies that I worked for that made investments in technology equipment marketing and advertising programs new product launches expansions of distribution networks entry into new. So companies can have a diversified portfolio of investments as well. And by the way they can also look at analyzing or reviewing what the average return of their portfolio is. And this is one way that companies that are actively involved in lots of projects look to diversify or increase their investments in one project over another. OK. So what applies to an individual certainly applies to a company just on a much larger more complicated scale. Now I mentioned in the beginning that there is a concept called risk premium. The risk premium says that we can if we identify what the market is returning. If we look at what our cost of capital is and remember we talked prior to this presentation about the weighted average cost of capital. That's what it costs the firm for the capital plan that they put together. I remember that's made up of two two components. One is debt. One is equity. Debt is money that we borrow from the lender that has a cost. And we know what that cost is. It's the interest on the debt. If we choose to use equity there's a cost to that equity even though shareholders have put money into the firm or the owner has put money into the firm to make investments. There's a cost to that and that cost is what the expected return is. So remember we talked about the fact that your investors can have investments in the overall market return. If the market is returning 7% to investors then we probably want to set our cost of equity at a minimum of 7%. That should be the least that an investor would expect to get from our firm and what we're doing. However again in a quest to ensure that we are always maximizing the return to owners and shareholders creating value in the firms that we're managing. I can put a risk premium and say that while the overall market is returning 7% we're going to only look at and invest in projects that have a return of 9%. We have a risk premium. We're looking to get projects that are returning better than the average return for our shareholders. This is a key as we consider our investment decisions. Remember when we talk about the cost of capital. That's a number that we very often use as the discount rate when we're discounting future cash flows. So let me drag future cash flows. We make an investment in a project. We forecasted that that's going to be a loop. I'm sorry. That last sentence I I lost you there. Like the zoom picked up and I lost the end of that last sentence. OK, so if we if we consider the cost of capital and we talked about discount rates. Remember we've got that concept of future cash flows. I invest in a new product because over the next five, six years, seven years, I'm expecting to get cash flow as a result of that. Well, that cash is in the future. Remember that we discounted future cash flows to bring it back to the present value and that discount rate is the cost of capital in those cases. OK. Now. If there's a risk premium, think about what happens for a second. If I'm discounting future cash flows by seven percent, I put on a risk premium of nine percent. That means that that present value of those future cash flows is now worth less. In effect, I'm really challenging the expectations of what's going to happen in the future. I'm going to make it more difficult. I want to really ensure that the return is going to be reasonable and meet the expectations of shareholders. And that's why we might use a risk premium. Now, the other way we consider a risk premium is as the company itself sits back and looks at an investment opportunity, we're making an assessment of how risky we think the project is. Now, some will not be as risky as others. I spent a great deal in my career, for example, working at United Technologies Carrier Air Conditioning Company, World's largest manufacturer of air conditioning and heating systems. Been around for a hundred years. Thousands of lines of products have been produced by this company. If we were looking at rolling out a next generation of home air conditioning, the risk of that not being successful is fairly understandable and fairly low. If on the other hand, as as a former vice president of marketing at Carrier, I said, I think we should roll out a line of computers, that would be very risky. Nobody would recognize Carrier Air Conditioning Company as a source of computers. Even if we had the technology, just the task of showing the market that this was a viable product would be extraordinary. So when a company looks at a potential new project and says, well, this might be a tad riskier than what we're used to do, again, they can add a risk premium. So when we calculate the discount rate we're going to use to evaluate future cash flows, we'll start out with the cost of capital and we will add a risk premium amount, 2%, 5%, 8%, reflecting how risky the investment is. If I bump up the discount rate to 8% and after evaluating future cash flows, I still have a positive NPV. And you all remember what net present value is from last week. If it's positive, we said we'd make the investment. Well, if I've really stressed the potential return and use that risk premium, and it's still positive, I'm becoming more sure that it might be a reasonable investment to make. Okay, now there's risk, there's all kinds of risks that we face in business. And one of the key things that any company must do is manage risk. So let's talk a little bit of about one where the risks might come from, and how we go about managing risks. As a former CEO of a company, I know that risk comes constantly and in many forms. There is risk about our pricing plans and product demand. We put together a program that says we can raise our prices to a certain extent for next year. Based on our research and our understanding of our customers, this will have little to no impact on sales. It's a big risk. And whether or not new price increases will be accepted by the market. Or even what the demand for a new product will be. If you're doing business across borders, as I did business in some 30 or 40 countries around the world, a key issue is currency exchange rates. We're constantly looking to forecast what the currency transaction costs will be, but it's a forecast. Anybody who deals in currency knows that currency rates go up and down every day. We have input costs. We go into the market and we talk a lot about preparing our strategic and business plan. We forecasted prepared proformas. Part of that was forecasting our expenses for next year. There's a risk that our forecast is wrong. There's a major impact. Suddenly there's a huge impact in increasing taxes. Or as we've seen around the world today, the cost and the impacts of the supply chain. So that's another risk that's a potential issue. We forecasted our net operating profit after taxes or notepad. We have an expectation. We set an expectation in the market about our profitability. Free cash flow. Businesses require free cash flow. That's having an adequate amount of cash to meet the day to day, week to week operating activities of the business. That to equity ratio, which we've talked about as the capital plan and we forecast what we expect to be our cost of debt and what our cost of equity will be. But there's a risk that those forecasts are off. Suppose there's a sudden increase in the cost of interest. Can have a major impact on the projects that we have and the projects we're looking to invest in. And of course there's interest rates, which we just talked about. Interest rates fluctuate like everything else. One of the things a firm will do is not only understand the interest they're paying today, but what's the potential interest in the future? Do we anticipate interest to go up or down during the next 12 months? This has an impact on decisions we're making and what we want to invest in. Now there's an opportunity here to manage this. Let me change it from opportunity to there's a requirement for management to manage risk. Risk impacts the value of the firm and the potential return to our shareholders. And remember that one of the roles of management is to constantly focus on increasing value, value of the business for the benefit of owners and shareholders. So if we can manage risk, doesn't mean we can control it, doesn't mean we can eliminate it. But if we're at least aware and we take some steps to manage risk, there are some benefits that accrue for that. One, if you really are managing your risk and you're in a reasonably good position, chances are you can use more debt. And the cost of that debt will be less. So as an example, personally, if you're going to go out and buy a new car or buy a home, you go to the bank, you're going to get a loan. Obviously, they do a credit review. And depending on your credit worthiness, will have an impact on the interest that you pay. The riskier you are on your financial base, the higher the interest rate will be. I mean, that's how the lender adjusts for their risk, the risk that you will default. Same thing applies to a business. If a business has a found financial base and is performing well, they can expect to negotiate lower interest rates that has an impact on the overall cost of capital. And so that means that you're in a better position to be able to develop that optimal capital plan that we talked about before. And remember that the optimal capital plan simply says that it's some percentage of debt and some percentage of equity. Given the cost of each, you've got the lowest overall cost of capital. And remember, we said we could actually determine that by varying the percentage of debt and the percentage of equity used in our capital plan. We do that and we zero in on the debt to equity ratio that will give us the lowest overall cost of capital. Typically, as a general rule, it's somewhere in the area of 60 40 debt to equity. But it varies by industry by time by the financial wellness of the firm. The some additional risks are that you can if you're if you're managing risk, you can maybe limit some of the risks that come from financial issues. I say avoid and it's possible, although after 30 semi years of experience, I've never been in a position where I was able to eliminate risks. But we do try very, very hard to limit that risk. And so on the financial issue, if we can, if we limit the impact of the risk of getting into financial difficulties, we can minimize potential impacts with suppliers who, for example, maybe we're allowing you to purchase goods and then they would send you a belt. Now we're looking for you to pay cash in advance. That's an impact on your business. If there's any indication that there are potential financial problems in the firm, they could have an impact on customers. And if you have financial difficulties, I can assure you that we are spending an exorbitant amount of management time dealing with the issues that arise from that. And as I mentioned before, there's the potential for reducing the cost of debt. Now, generally, here's a simple way to think about risk management. It's management of unforeseen events, which might have a negative impact on the firm's financial performance. Now, how's that for a vague definition of what it is? But remember, we're talking about things that could occur in the future. If they've already occurred, you're deep into the mess and you're dealing with it today. But what we're really thinking about from ownership and executive management is what's going to occur or what could occur. And we want to plan for that. So there are categories of risk. I'm going to list some. The list could probably be much larger. But for example, some of the areas of risk that a business will look to spend some time looking at will be financial risk. We talk about what some of those are financial risk of not receiving the expected return on investment, the financial risk of increasing interest rates, having an impact on a cost of capital, an increase in accounts receivable that's having an impact on our cash flow. So financial, anything financial that can impact the day-to-day operation of business. Property risk or the assets we have. We've just we're deciding to make an investment in a new plant because we believe that we're in a position to dramatically increase our sales and I need to produce more product. There's a risk in that decision. Personnel. Do I have the right people with the right skills to actually operate and manage the business? One thing that's interesting on personnel that I've noted as an avid reader of all things business is that companies are actually taking longer in the hiring process today. From the time we start the interview process to the time we offer someone a job, we're taking longer because we're recognizing how important it is to get the right people into our firm and people that we hope will be able to not only attract the right people but retain the right people. The environment. Lots of issues today on environment and being good stewards of the environment. Companies that have are associated with a negative impact on the environment. There's a huge risk associated with that today. Liability in all of its many forms. Product liability, personnel liability, business liability. Demand. I know as an executive in a company that was doing $3 billion a year, we spent an awful lot of time, money and resources forecasting what the demand for our products and services would be going forward. With all of that research and all of that time, I wish I could say that our forecast was always 100% right on. It wasn't. So there's a potential risk about how off of the forecast will you be. And competition. One thing that I've noted about competition over the last number of years is that competitors are coming more frequently and from more places. We're in a dynamic global competitive marketplace today. Good luck at trying to understand where that next competitor will come from. If I go back 30 years in my career, I could tell you who are cap six competitors were. And I was very familiar with the companies, their makeup, their locations, their products. Today, a competitor can come up that wasn't even on your radar the day before. So these are risks that firms have to deal with. So how do we do that? Well, there are some processes. There's a there's a system that we can use to manage risk. And let me give you four four point simple step by step way to do it. One, every business must identify all the potential risks that the firm might face. Now, this is a this is not an exercise in futility. In my organizations, we would sit there as we wrapped up the end of the year. We would look at what had taken place. We would try to see what we knew about going forward. And we would try to identify all those potential areas that posed a risk to us achieving the financial goals that we had set. Once you've identified all the risks, and by the way, this can be a pretty substantial list, then we have to go through and identify and quantify the degree of impact. I mean, not all risks are the same. And so certainly I want to look at what do I believe? What's the probability of a risk occurring? And how severe might that be as an impact to my to my business? So I can lay out a list and order. So maybe I at least start by looking at the top five risks, the one that have the biggest, largest potential impact in my business. And then the fun begins, because once you've done all that, and before you get depressed by looking at all the risks that your company faces, you can step back and start doing a risk mitigation strategy, which is just a business term for saying how do we reduce it? And so we typically would put together a plan or a business plan or strategy for each and every risk on that plan. That said, if this risk occurs, if this pops up, here's how we're going to go about approaching it. Now, why do we do that? We do that because you don't want to wait till you're faced with a crisis and then say, okay, so let's all get together now and talk about what we might do. The clock is ticking, folks. And so we plan in advance. We plan a preemptive strike. We have the list of projects that are on the shelf. And when risk number two pops up, we pull the plan off and we initiate the plan that we had talked about. Now, does this mean there's a perfect defense against risk? No. But it's certainly better than no defense against risk. And it's part of what management does, right? And it's dynamic. And by that, I mean that it's constantly changing. You can do your risk assessment at the beginning of the year. Does that mean you're all good till the next year? No. You're probably going to review that at least on a monthly basis or a quarterly basis because changes may need to be made. Alright, now, some simple potential actions that we can take when we identify at our risk in putting together our mitigation plans. Are some of these risks, can we offset the risk by purchasing insurance? There's a risk that if you're driving your car, you'll be in an accident. And you may be faced with a large bill to repair your car. How do I mitigate the risk of being faced with that large... I have auto insurance. Well, there's business insurance. There's business interruption insurance. There's flood insurance. There's disaster insurance. What kinds of insurance might the business be able to get to help with risk? Now, bear in mind, all of these plans come with a cost. So yes, I'm increasing cost. Also has to be taken into account in my financial risk. Let me give you an example of an insurance issue. Here in the U.S. for some period of time, going back a decade, CEOs of publicly traded companies who have a stated legal fiduciary responsibilities to shareholders to make decisions that are in their interest were potentially at risk of being sued by shareholders if decisions they made, they didn't exercise due diligence in making those decisions. Well, major corporations covered the executives for that risk with insurance policies. As a former CEO, my firm provided me with liability coverage in case of those kinds of suits. Now, the idea here being that if I was working in the best interests of shareholders and could demonstrate due diligence, then it was reasonable to try and protect protect executives from those kinds of suits. Are there certain activities that are risky for us that we could outsource? Outsourcing is commonly used today. And a matter of fact, we outsource on a global basis. Coming again from United Technologies Carrier, we had operations and facilities around the world. And we outsource production to major manufacturers around the world. Transactions and currency exchange rates. Well, again, as a global company with billions of dollars of foreign currency transactions taking place, we had an entire department in corporate finance that dealt with future contracts on currencies. So we would actually take positions in the future on what we thought currency might what the currency exchange rate might be on all the various currencies we did business in. Or maybe necessary for the firm to step back and reduce or eliminate high risk activities. Suppose you're involved in the man in a manufacturing process and the insurance company says, well, we can't ensure that that is too risky. Well, maybe that's an indication that the firm may want to either reduce that activity or eliminate it all together. Now, I've covered a lot of things on risk here. And so before I go much further and get into stocks, let me just stop for a moment and see if there are any questions. All right, well, I again, everyone, if you have any questions, leave them in chat. I we will we'll get to them. But I do have a question. And that's what I was thinking about the entire time. When we started, you said, you know, nothing's guaranteed. Don't put all your eggs in one basket. What would be like the the risk assessment for doing that? Right? Because the most efficient way would be to get your the person to have as big a basket they can and put as many eggs as possible in that basket, right? No, not as many eggs. Remember, by eggs in one basket, that means that if you have a dozen eggs in that basket and you drop it, what do you lose? All your eggs. But that's more efficient for us as a business. We have 12 but if he makes it, it's 12 eggs, right? But if you have a basket and in there you have 12 eggs, 12 oranges, five apples and two bananas. If you drop it, you'll lose the eggs, but you haven't lost your entire basket. And that's really what a diversified portfolio is. I could put on invest only in energy stocks. But if anything happens to the energy sector, the entire basket goes down. So instead to reduce the overall risk, I want to have some industry, some energy. I might want to have some consumer goods. I might want to have some technology. And that's the idea of not putting all your eggs in one bit. Mix the eggs, mix them with them. That's great. I might clip that out and do something with that answer. But I'm not seeing anything in the chat right now. But if anyone does have any questions, of course, leave them in the chat anytime. And if you're if you're watching later, leave it in the comments. I'll get to it sometime in the 24 hours stand after you. But we'll I'll hand it back over to you. We can we can go on. We're we're good, I think. Okay, great. By the way, that's a that's a good question, which students labor over every time it came up in in classes that I had, or talking with friends of mine who were investing and actually understanding that you can calculate the overall risk of a portfolio. If you want to get into all the math, I'll let you go to YouTube for that. But it is possible. But it's a great question and people labor with that who invest. Let's wrap up our discussion today with just a quick review of stock and I bring stocks into this because remember the the the stock price investors are investing in your company and they're getting a share of that business, right? If you're publicly traded, you're getting a stock. And that stock represents something for the business, it means that you've gotten some equity from investors. They've given you money. And remember they gave that to you. Why? Because they're hoping that you will take that money and invest in initiatives that will generate a return that is greater than what they would expect to get some place else. That's why they're investing in you. For the company, the stock is a source of equity. Remember our capital plan is made up of debt and equity. So welcome to equity. So we're we're looking for folks to invest in our business as a means of funding future growth and investment activities. Typically, there are in a publicly traded company, there's two kinds of stock. One is preferred and one is common. Now, preferred stock is interesting at preferred stock goes to certain individuals who invested a large sum of money in the business. They have no voting rights. So preferred shareholders do not get the vote at the annual board meeting. They don't get to vote for the board of directors. But they do have a guaranteed dividend. So as a preferred stockholder, I put my money into the firm. I invested. They have guaranteed me a 5% dividend per year on the money that I've invested. That's guaranteed. And a couple of interesting things happen with preferred shareholders. One, in the case of default, if the company goes bankrupt, the people at the top of the list to benefit from the liquidation of the firm are preferred shareholders. We go first. The other thing that happens is the dividend is not only guaranteed, but let's suppose the company is currently in some financial difficulties. We don't have the cash available to pay those preferred dividends. That means that nobody gets paid dividends. So until the preferred shareholders are taken care of and we've caught up with their dividends, nobody else gets a dividend. Now, more commonly is common stock. That's stock that's bought over any of the major international stock exchanges. I go in and I buy a share of stock in a company. Now, there's no guarantee of a dividend on my share of stock. As a matter of fact, there's no guarantee of a return on that share of stock. In terms of bankruptcy, if I'm a common shareholder, I go to the bottom of the pile. So after preferred shareholders and debt holders and people the firm owns, but once that's all paid, if there's only money left over, it goes to the common stockholder. So what's the attraction here? Well, attraction is one, I can now I do have voting rights. So as a shareholder at the annual shareholders meeting, I get to vote my shares of stock. Now, if I own two shares of stock, my vote might not count much. But when you consider the fact that you have institutional investors, for example, anybody here who belongs to a as a retirement fund from a union or a job position, those retirement funds invest a certain amount of their money in the stock market. They vote lots of shares of stock. And so they can actually have an impact on decisions that the board of directors is making for the direction of the firm. They have impact on selecting the officers of the board of directors. So they can they can become very engaged. And over the last number of years, I think I can say that shareholders have become a much more involved group than they were 30 or 40 years ago. Shareholders today tend to be much better informed. They're watching businesses, they're looking at financial reports, they're looking at the market. And they're making much better informed decisions. And that's a key to remember as a president and CEO of a company recognizing my responsibility to them. Now, the other thing that sharehold that shares do is we look at the share price because it's an indicator. It tells us something. Remember that if I look at what the value of the actual value of a share of stock today in terms of dollars and cents is the book value of the company. We've talked about that in the past off the balance sheet. If I take all the firm's assets and I turn them into cash, I liquidate all the assets. I pay off all the liabilities. If there's a pool of money left, that's shareholders equity that belongs to the shareholders. Now, let's just say that that equity was $100. The company has one shareholder. It's me. I have one share of stock. So the value of that share of stock is $100. Now, that's the book value divided by the number of shares of stock that are out there. Shares outstanding. That's how you look at what the book value is. But that's not necessarily what the selling price is. If you go to the market, we'll find that stocks can have a price that is greater than or less than what the book value of that share is. And so what does that tell you? It's the market telling us something. The market is looking at your firm. They're looking at your past performance. They're looking at your financial plans. They're looking at how well you're performing financially. And they're making some determinations. They're saying we're happy with that performance. And so we're willing to pay a little bit more than the book value of that price of stock, because we think it is a good investment depending on how you define good. If in fact the market's looking at a company, looking at what you've done over the last number of years, and they see an expectation that you will continue and perhaps even grow more in the future, what do you suppose happens to the price of that share of stock? It goes up. And so what is the market doing? They're pricing the returns on that business looking forward. So it's a forward view of what's happening. If a share of stock is selling ed book or less, then the market is either one not terribly interested in what you're doing or concerned. And one might expect to see people selling their shares of stock. All right. So there's the stock market as an executive of a publicly traded company. I can assure you that I monitored the stock market. I monitored what the overall market was doing. I was keenly interested in what all my major competitors were doing, how my industry sector was performing. And of course, how we were doing compared to that, recognizing that that's one way of judging how good the decisions I was making are. Now, another thing that shareholders will look for when they invest in stock is whether or not that stock pays a dividend. Dividends aren't guaranteed if you're a common shareholder. Some stocks pay no dividends. But what is a dividend? A dividend says that at the end of the year, if you go back to our first two videos on this course, we talked about the income statements, the financial package and what it said. Well, the bottom line of the income statement was net profit. After all the expenses were paid, how much money was left over? That's net profit. And remember that the business has a decision to make at that point. Let's suppose that that net profit is a million dollars. What do I do with it? Technically that million dollars belongs to the shareholders. I could return it all. The problem with that is then there won't be any money on day one of the new year. So we retain some of that money for continuing operations. And remember what we called that, retained earnings. So if I retain some of those earnings, I don't have to retain all of it necessarily. If I retain some, then what do I do with the balance of that? One thing to do with that is to pay dividends to shareholders. Now, this is so important that as an executive of a publicly traded company with shareholders, we actually planned in our business plan and as part of our pro forma statements that we would project that we needed to earn so much money above retained earnings so that we in fact could pay our shareholders dividends. So as somebody buying a share of stock, I might be interested in one, are dividends being paid yes or no? Two, if they're being paid, how often are they being paid? And three, are these dividends, can I anticipate that the dividends will actually increase year over year, which some companies strive to do? Those all impact investment decisions, your shareholders return on value, and how much equity the firm has to invest. Now, that's probably more than enough to keep everybody busy for today's lecture. Next week, we're going to go on to unit five in our course, and we're going to talk about managing capital, a key responsibility for the management of any business, and managing capital is a key responsibility for anybody that has a household. So with that, I'm going to turn it back to Michael and see if there's any questions so far. Um, there are no questions right now. But again, if anyone has a question, I'll do the thing I do where I talk a lot and give you time to do it. Um, thank you for joining us. Um, again, we'll be back next week, as said, if you haven't caught any of our videos before there, uh, linked below. And of course, this is supplemental material for, uh, Sailor Academy's course. So again, that's linked in the description below. If you'd like to like to do that. Um, but I of course, just like to, uh, thank Dr. Pearson for taking us through this. I'd like to thank everyone watching now, everyone watching later. Um, hopefully, uh, me fixing my voice hasn't made the videos worse for you guys. Um, um, uh, but I'm, uh, I'm looking here. I don't, I don't see anyone, um, having any questions right now. But, um, yeah, I think, I think, uh, I think we're just, we'll call it for now. It's, it's been a long one. You guys, you guys can, uh, you know, think about what we talked about. If you have any questions, leave them in the comments and we can talk about them next week, I think. But, uh, thank you everyone again. Again, thank you, Dr. Pearson, uh, as always, uh, for, for taking us through this. Thank you, Michael. Take care, everyone. All right. Bye, everybody.