Sunday, March 27 Update

Sunday, March 27, 2011

Recent Activity

It has been a few weeks since I’ve published an update to what I had hoped would be a weekly blog.  To be honest, I’ve been preoccupied with a number of activities, both personally and professionally related – nothing bad, I assure you, but of higher priority than publishing what I believed was a lightly followed publication.  This blog is facilitated by Google, and they have a set of excellent tools that provides me with information about the number of visitors who land on my page, and where they originate by country.  It appeared to me that the majority of the people who were visiting resulted from my post about the blog on Facebook.

But since my last post, I’ve received encouraging emails from a few people I have never met, and I was encouraged to continue, so I will.  I will try to post updates at least once a month, and provide the horizon for dividend stocks whose ex-dividend dates are approaching over that timeframe that I am considering myself.

Looking back on the events that have occurred in the world since I last published makes one realize how quickly things in the world can change, and reminds me that it is important to consider the consequences that world events can have on investments of all types, including dividend yielding stocks. 

Since my post on 2/21, there have been a number of developments around the world that every person should be aware of, and every investor should consider carefully, in my opinion.  The situation in Libya surfaced, and has developed to the point where the US and NATO allies are involved militarily in an attempt to oust Khadaffi.  The entire Middle East remains unstable politically, and appears to be headed for more disruption.  The multi-faceted tragedy in Japan has occurred, with the implications of the nuclear danger still unfolding.  And on Friday, the Canadian Parliament voted to oust Prime Minister Stephen Harper, who has held that positon since 2006.  Elections will now occur that could significantly change that government.  Also in the past month, we have witnessed a correction in the stock market, which declined precipitously to the 11,600 range, but has now rebounded above 12,200, and is again approaching its 12 month high.

  

Closed positions

Throughout these events, I was able to close the following positions at a profit, consistent with my rules, where profits on the stock are taken as soon as possible after the ex-dividend date.

Southern Company was sold on 2/28/11 at $38.15 for a $0.20 per share profit, coupled with the dividend of $0.455 that had accrued, and was paid into my account on 03/05/11.

Northeast Utilities was also sold on 2/28/11, at $33.80, for a $0.30 per share profit, coupled with the dividend of $0.275 which had been paid on 2/25/11.

Another utility, Dominion Resources, was sold on 3/3/11,  at $45.55, for a very nice gain of $1.37 per share, and its dividend of $0.4925 per share arrived on schedule on 3/20/11.

Finally, one more utility stock was sold at a slight profit.  CenterPoint Energy was sold on 3/21/11 at $17.05, for a per share profit of $0.90, coupled with the dividend payment of $0.1975 per share that arrived on 03/09/11.

The utility stocks treated me very well recently.  As the nuclear disaster unfolds in Japan, however, I think it will be very important to consider the implications on the players in this vertical market.  I’ve read that the US depends on nuclear power generation for about 25% of its demand for electricity.  There are 104 nuclear power plants authorized and in operation in the US today.  The impact of the disaster in Japan is resulting in a global evaluation of the risks vs the rewards of nuclear power.  Germany is already on record for planning to phase out the use of nuclear power.  What this all means for the companies that provide our power is unclear to me at present.  I only know that it is something to be aware of and to stay current on whenever considering the purchase of power companies in the future.

So here is the summary of what was sold, and the profits that were booked since my last blog was published:

Stock Symbol	Company Name	Profit per share	Dividend Captured	Days Held
SO	Southern Company	$0.20	$0.4550	52
NU	Northeast Utilities	$0.30	$0.2750	12
D	Dominion Resources	$1.37	$0.4925	30
CNP	CenterPoint Energy	$0.90	$0.1975	49

New Purchases

Since my last post, I’ve used the funds from some of these sales to purchase positions in the following companies:

Cincinnati Financial (CINF)

This is a stock I have successfully purchased and sold in past quarters.  I had opened a position on 2/22 at $34.02, and the price declined during the market correction, so I added an equal amount to reduce my average purchase price on 3/10, at $32.98, bringing the average purchase price to $33.51.  CINF went ex-dividend on 3/20, and will pay a $0.40 per share dividend on 4/17.  The stock price remains below the average purchase price, at $32.47, so I will continue to hold it.

Pennant Park Investment Corp (PNNT)

This is a new purchase I made, which surfaced in the weekly screen of stocks that I examine.  The company is engaged in making investments in middle market companies, through loans, preferred and common stock, warrants and options.  It has a very high annual yield of 9.2%, so it is riskier than most of the companies that I choose, but the company has been successful, and I was impressed with their revenue growth and recent performance, as well as their management.  We’ll see how this turns out over time.  I purchased it on 3/7 at $12.45 per share, on what appeared to be a slight decline, which turned into a larger decline.  The stock is now at $11.74 per share, but the dividend of $0.327 per share makes up for much of the paper loss.  Similar to another “higher than average” yielding stock purchased in the past, Century Link Tel, there are higher risks in some situations.

Current Holdings

So here is the updated list of stocks that I am holding, either awaiting the ex-dividend date to pass, or awaiting the opportunity to sell where the dividend is due or already paid.

Stock Symbol	Company Name	Breakeven Share Price	Current Share Price (03/25)	Dividend Captured
HNZ	Heinz	$49.19	$48.64	$0.4500
PCG	Pacific Gas & Elec.	$48.22	$43.90	$0.4550 *
CINF	Cincinnati Financial	$33.51	$32.47	$0.4000
CTL	Century Link Tel	$45.19	$40.97	$0.7250
BCE	Bell Canada Enterprises	$36.27	$35.71	$0.4550
PNNT	Pennant Park Investment Corp	$12.45	$11.74	$0.3270

* Ex-dividend date has not yet passed

All current holdings are below their break even points. 

I am watching all of these closely, but do not see any reason for selling any of them at a loss.

PCG has declined, and I think this may be due to concerns about what could occur if their Nuclear Reactor plant in Diablo Canyon, CA (near San Luis Obispo) suffered the same type of disaster as happened in Japan.  This nuclear plant straddles 2 of California’s fault lines.  The  facility is designed to survive the effects of a major earthquake, but emotions sometimes dominate short term investment decisions, and perhaps some investors exited this stock, causing the price to decline.  The 2 operating nuclear reactors at the Diablo Canyon plant are licensed to operate by the NRA until 2024 and 2025.  Barring any actual disaster occurring in California, I see the decline in price as a temporary setback, and I will be watching it for a possible addition if the price does not recover shortly after the ex-dividend date this week, and I continue to hold it until the next quarter’s dividend date in June. 

Heinz actually climbed above the breakeven point recently, and I was tempted to sell it, but ultimately decided to continue to hold it until the next ex-dividend date which is approaching.  Positive comments from the CEO about sales boosted the stock.  Perhaps the pullback is also partially attributable to the situation in Japan, since Heinz’ products are sold throughout Asia, and this may hamper sales in Japan in the near term.

Century Tel received the final regulatory approval for its acquisition of Qwest Communications.   The FCC had approved the deal, but 21 State Public Utility Commissions also needed to approve it, and Oregon was the last one to do so on Friday, March 25^th.  The “merger” as it is being called should be effective on 4/1.   Like PCG, this stock is significantly below my initial purchase price, and I will continue to hold it, and possibly add to it over the next quarter if necessary.  I see the decline in this stock as temporary, and that as the dust settles, investors will be attracted to this combined company and its dividend.

On the Horizon

Stock Symbol	Company Name	Closing Price 03/25	Dividend Expected	Ex- Dividend Date
VZ	Verizon	$37.29	$0.4875	04/06
T	AT&T	$28.90	$0.4300	04/06
PGN	Progress Energy	$45.35	$0.6200	04/07
BGS	B & G Foods	$19.40	$0.2100	03/29

AT&T recently announced its planned acquisition of Cingular Wireless.  The price of AT&T did not rise or fall significantly on this news.  My belief is that the consolidation that is occurring in the telecommunications industry will be good for the companies in this industry in general.  This announcement does not, in my opinion, prevent either AT&T or Verizon from being a short term dividend harvest play for their respective upcoming dividends.  I’ve purchased and sold both of them successfully in the past, and based on their payouts and cash flow, I would not be averse to holding either of them if necessary.

Progress Energy is a company that I’ve had on my watch list in the past, but have not purchased.  The company provides power to several states in the Southeast US, and the stock price fell about 4 points recently, and is below its 52 week high, perhaps again as a sell-off due to the nuclear disaster in Japan.  PGE has 4 nuclear plants.  2 are in North Carolina, 1 in South Carolina, and 1 in Florida.  It is seeking approval to build another plant in Florida.  Revenues and earnings are trending upward, and I see this as a potential opportunity to capture a nice dividend payment while the price of the stock is temporarily depressed.

A new candidate is B & G Foods (BGS).  Most people are not familiar with the name of the company, but have probably purchased one or more of the products that it owns, including Vermont Maid syrup, Ortega, Brer Rabbit, Grandma’s Molassas, Polaner, Cream of Wheat, Emeril’s Underwood, and B&M Baked Beans and Brown Bread, which are my personal favorites.

The company’s stock price has moved up recently, and it has garnered attention in the press due to a recent outstanding quarter, and because it is increasing gross margins and profits.  My belief is that the upward move is not over yet, and this offers an opportunity to capture a dividend and a possible gain in the share price as well. 

Note: Although I am not going planning to publish a weekly update going forward,   I will try to update the “On The Horizon” dividend candidates in between general updates.  You may want to “Follow” this blog, as I believe that provides you with email updates whenever new content is added.  Having more “followers” will also serve as encouragement for me to update things routinely.

Q&A

The only feedback I’ve received was from 2 people who I don’t know who sent me emails when I didn’t publish for a few weeks.  I do appreciate knowing that there are people who like what I am doing.  Please send this link on to others who might like it as well.

Closing Comments

The Official Disclaimer:  I am not a licensed investment professional, and that what is contained in this blog is the result of my own research and opinions only, and is not investment advice.  It is only a strategy that I am employing personally in an attempt to capture short term dividends on selected stocks.  Each person has different investment goals, objectives, and timeframes.  As such, each person should do his or her own research before taking any action on any type of investment.

Ken

Weekly Update 02/21/11

MONDAY, FEBRUARY 21 2011

Past Week’s Activity

The US market continued its advance last week, as the revolution in Egypt continued on a path toward a peaceful conclusion.  There were some moments of angst when reports surfaced about Iranian Warships in the Suez Canal, but apparently these were planned movements and not in response to the Egyptian uprising.  Other nations in the region seem to be taking their lead from their Egyptian counterparts.  It will be very interesting to watch the traditional kingdoms (e.g. Bahrain) and the militarily backed dictatorships (e.g. Libya)  as this continues.  As the will of the people is played out, will there be a confrontation or revolution, or will the people prevail with a peaceful change in politics?  Will the military and police forces in these countries ultimately remain aligned with the existing governments, or will they side with the population?   One thing is very clear: The telecommunications technology (e.g. Internet and Facebook) have been instrumental in facilitating the flow of information, allowing organized protests.  However these other countries  play out, be assured that there will be an effect on the US on a number of levels, ranging from the prices for petroleum products, to the long term political stability in the area, and our alliances and influence in the region.  The effects of what is going on in the Middle East will have long term implications, and it will be very important to understand and anticipate these effects on any investments that are being held or possibly selected.

Concerns about inflation also continue to be a theme with warnings about increasing prices for raw materials, minerals, basic commodities (and then the cascading effect on food prices) around the world, as the demand for raw materials, goods and services increases.  Inflation is never good news to consumers, as it translates into higher retail prices for everything we buy and use.  It results in less buying power, and puts particular stress on those with low income, since they have the least amount of discretionary spending dollars available.  As this theme continues, I will write more about it in future blogs, and the effect as well as some possible opportunities that result from it.  It is important when facing seemingly bad economic news to find opportunities – they are usually out there if you know where to look.

Finally, the debate that is occurring about our nation’s budget continues to play out in Washington.  State budget struggles are also coming to the forefront.  It appears that America is finally getting the rude wake up call that we have to run our country like a business, and that we cannot place the financial burden of resolving today’s problems on the backs of our children and grandchildren.  Most people seem to be aligned and understand that we have to reduce the deficit.  It is a matter of national interest and security.  The programs and cuts that will have to occur to make this happen are what will be debated and decided.  Since about 57% of the National budget funds Social Security, Medicare and Medicaid, it will be interesting to see if and when these entitlements that all Americans have come to expect will be addressed.

At a local level, the stocks in the dividend harvest portfolio all continued to act within what I consider “normal” trading ranges. 

It is said that the stock market generally reflects the anticipation of what is going to occur in the economy.  After the near meltdown of the financial markets a couple of years ago, and the ensuing severe recession, the US Government has kept interest rates very low, and injected capital into the system to encourage and stimulate economic recovery.  The effectiveness of these measures can be debated, but it is clear that the investing community sees hope in economic growth based on the rising prices for US Stocks.  Below is a 3 year chart of the Dow Jones Industrial Average. 

Note the severe decline in late 2008 and into early 2009, when it bottomed out, well under 8000.  Since then, it has recovered steadily, with some intermittent corrections.  Since November 2010, however, the advance has been very steady and quite impressive.  Many analysts are calling for a correction soon, due to the advance.  Others say that if it occurs, it will represent an opportunity to get back into equities if you have been waiting for the right opportunity.  I don’t give advice, but one of the concepts I am employing in the Dividend Harvest Strategy is to only buy stocks that I would not mind holding for a long term if they decline.  In my situation in life at age 57, I can still ride out most corrections that might occur in the market.  I assume that well run highly capitalized companies with growing sales, margins and profits will eventually recover their value, and in the interim, if they are generating sufficient cash flow to sustain their dividend, I will be able to sleep at night while waiting out any correction.

Whatever your investment strategy, it is clear that since early in 2009, the financial markets have been optimistic about the prospects for the US economic recovery.  Although unemployment rates are still at unacceptable levels, many companies are posting excellent growth in sales and earnings.  American businesses have generally improved their operation by cutting expenses (hence, the high unemployment rate as workers have been reduced).  As a result, there are a number of companies that have tremendously increased the  amount of cash on their balance sheets.  This eventually should translate into them investing in capital and or personnel, or possible acquisitions to continue growing their businesses and / or paying some of the cash back to their shareholders in the form of new, or increased dividends.

As I pay particularly close attention to stocks that pay dividends, I noted a reputable new service this past week that listed 3 companies as possible candidates to increase their quarterly dividend.  I have added all 3 to my watch list for possible future consideration as purchases:

• Conoco Phillips
• United Technologies
• 3M – Minnesota Mining and Manufacturing

As each has its ex-dividend date approach, I will provide research on them, and their suitability for this strategy.

As far as the stocks I am holding in the Dividend Harvest potion of my portfolio are concerned, here is what occurred over the past week:

Dividends collected

One dividend that was expected arrived on schedule.  Paychex distributed $0.31 per share on  2/15.

Purchases

Shares were purchased on a few of the opportunities listed last week:

Century Link (CTL)

I purchased a small position in CenturyLink Tel (CTL) on Monday, as I mentioned as a possibility in last week’s blog.  The ex-dividend date was Wednesday, and understandably, the price of the stock came down on Tuesday, coincident with the timing of the company’s obligation to pay the divided to shareholders of record on the ex-dividend date.

Heinz (HNZ)

I also added to the existing position on Heinz (HNZ) which was also mentioned in last week’s blog.  This doubled my holding in this stock, and I will hold all the shares through the approaching ex-dividend date in March, and then wait for the average price per share to be exceeded, so that I can sell this stock at a net profit.

Northeast Utilities (NU)

I also opened an initial small position in Northeast Utilities, as I mentioned as a possibility in last week’s blog.  It remained below its recent high, and with the upcoming dividend date on 2/28, I may add to this position to bring the average price down if there is any more weakness in the stock.  I would look to add shares if the price declines by more than $0.40 per share than where I purchased it.

Dominion Resources (D)

I opened an initial small position in Dominion Resources, also mentioned in last week’s blog entry.  This purchase results in a high weighting of companies in the Utility vertical market, but I am comfortable with this for the time being.

Sales

I missed one opportunity to sell the shares in Duke Energy at a profit at one point during the week, when they crossed above the breakeven point.  Mea culpa. I watch the markets pretty closely throughout the day, but I got sidetracked with another unrelated project I was working on this past week when this happened, and then the price moved back down below my purchase price.  The lesson I have learned from this is to take advantage of automated text alerts that the broker I use offers.  I will be setting alert messages on all stocks owned and future purchases going forward, so that I can more efficiently execute trades when the stock reaches a profit.

Closed positions this past week

There were no sales this week, so the chart below is empty this week.

Stock Symbol	Company Name	Profit per share	Dividend Captured	Days Held

Current Holdings

Below is the updated list of stocks being held, either awaiting the ex-dividend date to pass, or awaiting the opportunity to sell where the dividend is due or already paid.

Stock Symbol	Company Name	Breakeven Share Price	Current Share Price (02/04)	Dividend Captured
CTL	CenturyLink	$45.19	$41.23	$0.7250
PCG	Pacific Gas & Elec.	$48.22	$45.38	$0.4550
SO	Southern Company	$37.97	$37.87	$0.4550
DUK	Duke Energy	$17.92	$17.94	$0.2450
BCE	Bell Canada Enterprises	$36.27	$36.41	$0.455*
CNP	CenterPoint Energy	$16.17	$16.19	$0.1975*
D	Dominion Resources	$44.20	$44.37	$0.4925*
NU	Northeast Utilities	$33.52	$33.44	$0.275*
HNZ	Heinz	$49.19	$47.72	$0.4500*

* Ex-dividend date has not yet passed

The ex-dividend dates on the first 4 stocks listed above have all passed.  They all remained below the price where I purchased them.   As mentioned, I had missed the brief opportunity to sell DUK at a slight profit.  I am hoping to have another opportunity to do so this coming week.  Southern Company is also very close to the price where it was purchased, so I am hopeful for a slight increase there as well, so that I can sell it.  CenturyLink was noted as a riskier than usual play, but I was very unpleasantly surprised by how far this stock dropped in this stock immediately after the ex-dividend date passed.  I will continue to watch it closely.  I saw no news about the company that caused the drop that occurred.    

The doubling in the position in Heinz reduced the breakeven point on this stock to $49.19.  All shares will be held until the next ex-dividend date in March.   A complete discussion of my rationale on this is in last week’s blog entry.

On the Horizon

Stock Symbol	Company Name	Closing Price 02/04	Dividend Expected	Ex- Dividend Date
CINF	Cincinnati Financial	$33.58	$0.4000	03/21/11

Cincinnati Financial (CINF)

I continue to watch and wait on Cincinnati Financial.  IT was strong this past week, but there is plenty of time between now and the approaching ex-dividend date in March.  If the market has a bad day or two, this might represent a short term opportunity to purchase a new position in CINF.

Thanks also to one reader (John) who I have been emailing with about dividend stocks and a microcap growth stock that we both like (This one is not part of the dividend strategy for sure!).  He  mentioned 5 companies that he is following based on a recommendation from another dividend website, and I looked into them.  Of those he listed, there were a few drug companies (Johnson & Johnson,  Abbott Labs, and Glaxo Smith Kline).  All are good companies, but none had the kind of stock price appreciation that looks as compelling to me as other companies.  One was a Chinese company (China Mobile) that also did not have the type of steady price appreciation that I look for, and finally, a utility company, PPL in Alentown, PA that produces and sells electricity to customers in several areas of the US and the UK.  I didn’t like the chart on this one, or the historical fluctuations in the revenues over the past few years. 

That’s not to say that these aren’t great companies, or that buying them for their dividends wouldn’t be a good idea.  They very well may be.  They just don’t look as attractive to me as other stocks for buying, capturing the dividend, and then being able to possibly sell them for a short term profit. 

With the amount currently invested, and with time as an enemy, I did not research or post additional candidates this week.  Assuming a couple of current holdings can be sold at a profit, I will begin looking for more candidates over the next week and list them next week.

Q&A

Other than the correspondence with John about the above stocks as possible candidates, there were no other questions or emails this past week.

THE BASICS

Last week I promised to start a topic called “The Basics”.  This section is for people who are new to investing, and / or who have not had any formal classes in business.

I am going to take one subject per week, and provide a very brief overview, and then provide a few links that can be accessed for additional reading on the topic.

This week: What exactly are “stock and bonds”?

A company that needs money to start its operation can basically secure these funds in 3 ways, or a combination of any of them:

1. It can take out a loan (a “debt instrument”)

2. It can issue bonds (another “debt instrument”)

3. It can issue shares of stock

In the first 2, the company gets the money it needs to start up its operation,  but it owes that money, plus interest to whoever loaned them the funds, or to the individuals who purchased the bonds.

Let’s say you wanted to start a lemonade stand when you were a kid.  You figured you would need $10 for the materials for the stand itself (an old card table, a sign, a chair to sit on, and the pitcher and large spoon that you were going to mix your beverage in).  These would be the “Assets” of your business.

Additionally, you need some working capital to buy the supplies to make your lemonade.  You want to buy 10 cans initially, so that you don’t have to ask your mother to run to the store every day. (Let’s also assume that she is not going to charge you for her time to do this, or the gas and mileage associated with going to the store).   Each can of lemonade would yield 20, 5 ounce cups, and the cost of a can is $2.00.  For the sake of example, assume that your mother allowed you to use the water and ice from her house.   

Finally, you need to have some cash available at the point of sale, in case you need to make change.  Let’s say you want to have $5 in pennies, nickels, dimes and quarters available in your cash box.

OK, so summing it up, you need $10 + $20 + $5, or $35.

Remember, you’re a kid, and you probably don’t have $35.  So you ask your father to loan you the money.  He, of course, in interested in your venture, but also wants to assure that he gets any money back that he loans you.  If he is a good business person, he also wants a return on this investment that he makes.  Since this is a riskier investment than he could make by putting his $35 into the bank, he should want a return that exceeds this very safe alternative.

The first thing he probably asks you is how you intend to pay him back for this loan.

You have figured out that between the thirsty kids in the neighborhood, plus the adults who walk or jog by your house, and the cars that pass by and will notice the sign (you have done some market research and statistical probability, plus pre-open marketing – you’ve already told your friends that you were going to start this tomorrow!) you figure that you will sell 100 cups of lemonade per day.  You are setting your price at 15 cents per 5 ounce cup, knowing that a single can of lemonade will yield 20 cups.

Your projected daily income statement, then, is:

Revenue: 100 * $.15 =                       $15

Your cost of goods sold =                  $10

5 cans of lemonade @ $2.00 each to get 100 cups

Your gross margin (this is the profit on your enterprise before subtracting selling, general and administrative expenses) would be $5 per day according to your calculations.

You plan to keep your lemonade stand open for the months of July and August (remember, you are a kid, and you don’t yet realize how boring it will be sitting there all day for 2 months).

So, your business plan says that you will make $5 per day for 60 days, or $300 for the 2 months of operation.

You are also creative, and plan to promote your enterprise by making up some flyers to put up around the neighborhood.  You figured that your copying and printing expenses will be about $5 for this.

Finally, your brother wants “in” on this idea, but is unwilling to sit in the sun all day.  He plays baseball, and proposes that he will buy a tray of 20 cups from you that he will take to the ball field where he plays every other day.  For simplicity purposes, you agree to pay your brother $0.50 per day for taking the 20 cups of lemonade.  You and he agree that he will pay you $3.50 for the cups (20 * $.15) and that he is responsible for the risk associated with loss, spillage or theft of the product.  Your brother has become a distributor, and he is essentially paying you a retail price, but is being paid a fee for buying it from you in bulk. 

So now you have a “Selling expense” for your distributor, of $.50 * 30 (days) or $15.

Let’s assume that the “assets” you purchased will be worthless at the end of the summer.  This is known as “fully depreciated”.  When a company buys an asset, it spreads out the cost of that asset over its life expectancy, taking a portion of it as an expense each month.  There are several ways to do this, and perhaps this will be a topic for another time.

So, after all of the above are accounted for, this is the business plan for your summer enterprise:

Sales revenues $15 * 60 =                 $900

Cost of Goods Sold $10 * 60 =           $600

Gross Margin =                                   $300

Selling, General and Administrative Expenses
Marketing (copies / flyers)    $    5

Distributor                               $  15   ($.50 per day for 30 days)

Depreciation of assets            $  10

Total S,G & A =                                   $  30

Net Profit =                                         $270

Based on this, your father decides to invest, and loans you the $35 to start your business.

He could either do this as a simple loan, or you could issue him a bond.  Both are known as “debt instruments”, meaning that whoever holds the loan is owed the money.  If the enterprise fails, those who are holding debt are also entitled to be paid as a priority versus the owners of the company, who own “stock”.  A loan typically is paid off over regular intervals, with a fixed payment that covers the principle plus interest.  Most of us are all too familiar with loans of this nature, for things like cars and mortgages.

Bonds, on the other hand are typically due in total at the end of an agreed upon term (time).  Between the time that a bond is purchased and when it is redeemed, the bondholder receives a periodic interest payment, and then the return of the amount loaned (principle) at the end of the agreed period.

In the above example, let’s say that your father is happy with making $2 on his $35 investment for 60 days.  He figures that it is much better than he would get by leaving it in the bank.

You would add another $2 to your expenses above, and your net profit would now be $268.

If he negotiated with you to repay the entire loan at the end of the summer, but with $1 in interest due at the 30 and 60 day intervals, he would essentially be a “bond holder”.  On the other hand, if you and he agreed to a weekly payoff, that would include principle and interest, it would be a loan.

But what about stock? 

Take the exact same example from above, but instead of you having no money whatsoever when you started your enterprise, you crack open your piggy bank, and find that you have $17.50 available to invest yourself.  Your father is interested in your enterprise, but instead of loaning you the remaining $17.50, he proposes that he would be a part owner with you, and share in the profits.  Being a shareholder in a company entails more risk.  For example, in our simple business case, what if it rains, or the weather is cool, and no one buys lemonade.  What if the distributor relationship fails?  What if the person running the business gets sick and can’t be at the lemonade stand for a few days?  What if a neighborhood kid puts up a competing lemonade stand and undercuts the price that has been established?  A lot of things can influence whether the business plan proposed will actually materialize.  A person holding a bond or loan wouldn’t care, as they would be due their payments no matter what happened (assuming there was any money to be distributed).  The stockholder’s financial success, however, is tied directly to the success of the enterprise, as the stockholder will accrue gains or incur losses based on how the enterprise performs.  

Back to our example:

You agree with allowing your father to be a part owner in the company, but this changes the game, and since you are putting in all the time and effort, you want to be paid for your efforts.  You and he agree that you will make $1 per day over the 60 days that the stand is open.  At the end of the summer, you and he will split the remaining profits as equal shareholders.  In this example

If you were a company, you would issue stock.  In this case, to keep the math simple, you could issue 70 shares, with a price of $.50 per share, thereby raising the $35.  The initial value of the company is determined by the capital invested divided by the number of shares.  In this case, it is $35 in capital, divided by 70 shares, or $.50 per share.  If the results of the business matched the plan, and the company dissolved at the end of the 60 days, this would be the outcome:

Sales revenues $15 * 60 =                 $900

Cost of Goods Sold $10 * 60 =           $600

Gross Margin =                                   $300

Selling, General and Administrative Expenses
Marketing (copies / flyers)    $    5

Distributor                               $  15

Depreciation of assets            $  10

Salary                                      $  60

Total S,G & A =                                $  90

Net Profit =                                         $210

The net profit would be split equally between you and your father, with each person receiving $105.   In this theoretical and very simple example, being a shareholder was more profitable than the examples of financing a loan or being a bondholder.  In publicly traded companies, there is the assumption that the business will continue.  This is known as an “ongoing concern”, versus our example of a short term business.

Of course, things are much more sophisticated with real companies, but I hope that the above examples help to educate you on the different ways that a new enterprise can get started, through issuing stock, or by securing a loan.

There are also many types of stocks (preferred vs common) and bonds.  If you want to read more, below are some websites you can visit for more information.  They provide basic information, and the preferred stock article describes the differences between preferred stock and bonds:

http://www.investopedia.com/terms/c/commonstock.asp

http://www.investopedia.com/articles/stocks/06/preferredstock.asp

http://www.smartmoney.com/investing/bonds/a-bond-primer-7921/

Closing Comments

Please continue to provide comments and questions.  I like hearing from people, and am open to ideas on dividend stocks that you may hold or are considering, as well as positive or negative critiques of what I am doing.

The Official Disclaimer:  I am not a licensed investment professional, and that what is contained in this blog is the result of my own research and opinions only, and is not investment advice.  It is only a strategy that I am employing personally in an attempt to capture short term dividends on selected stocks.  Each person has different investment goals, objectives, and timeframes.  As such, each person should do his or her own research before taking any action on any type of investment.

As always, if you enjoy reading this, I would appreciate it if you would forward the URL to one or two other people who might like to read it, or post it on your facebook page so that your FB friends can view it as well.    This past week I saw visits to the blog from Norway, Germany, France and Estonia.  I have a nephew in the military in Germany who I believe may have been in Norway this past week, but I have no explanation for the hits from Estonia and France.  If anyone wants to self identify, I sure would be interested in knowing who you are, and how you came to find my blog.  You can email me at ken.hannan@gmail.com

I continue to see growth in the number of visits per week, primarily coming from the US and Canada. 

Have a good week, and prosperous trading!

Ken