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Capital StructureThe stewardship of a corporation's capital structure involves a number of important issues, including dividend policy, taxes, types of assets, opportunities for growth, ability to finance new projects internally, and the cost of obtaining additional capital. For the most part, these decisions are best left to the board and senior management of the firm. However, while a company's value depends more on its capital investment and operations than on how it is financed, many financing decisions have a significant impact on shareholders, particularly when they involve the issuance of additional common stock, preferred stock, or the assumption of additional debt. Additional equity financing, for example, may reduce an existing shareholder's ownership interest and can dilute the value of his investment. Shareholders must also be alert to potential anti-takeover mechanisms, which are often embedded in management's chosen financing vehicles. These proposals should be analyzed on a case-by-case basis. ISS has developed a proprietary approach to evaluating capital structure proposals that is unique in the industry, using quantitative criteria that measure the number of shares available for issuance after analyzing the company's industry and performance. This methodology revolves around two basic questions:
Need: ISS examines a company's need for additional shares by measuring shares outstanding and reserved as a percentage of the total number of shares currently authorized for issuance. A company with few shares available -- because most of the current authorization is outstanding or reserved for issuance -- is afforded a larger allowable increase. The allowable increase represents the maximum permitted number of shares that can be added to the current share authorization. Companies are classified into one of several peer groups, including a group designated for rapidly growing companies whose shares recently became publicly traded. Each company's performance is then measured on the basis of three-year total shareholder returns. A company with stronger performance is given a larger allowable increase. For common stock proposals, the allowable increase will be adjusted upward if a company has a history of using common shares for stock splits within the past five years or if the cost of a company's stock-based incentive program falls within levels considered appropriate by ISS. The allowable increase will not be adjusted downward in cases where a company has not declared any stock splits or has stock option plans with costs that exceed ISS guidelines. Reasonableness: The allowable increase is compared to the company's request. Vote recommendations are determined by comparing ISS' allowable increase to the company's request for additional authorized shares. If the proposed increase is greater than ISS' allowable increase, an AGAINST vote is recommended. If the proposed increase is less than ISS' allowable increase, a FOR vote is recommended. Note that proposed increases that exceed ISS' allowable increase may still garner a FOR recommendation based on certain qualitative and quantitative factors (see Common Stock Authorization section below). Adjustments to Par Value of Common StockVote FOR management proposals to reduce the par value of common stock unless the action is being taken to facilitate an anti-takeover device or some other negative corporate governance action. Vote FOR management proposals to eliminate par value. DiscussionPar Value DefinedStock that has a fixed per share value printed on its certificate is called par value stock. The purpose of par value stock is to establish the maximum responsibility of a shareholder in the event that a company becomes insolvent. It represents the minimum amount that a shareholder must pay the company if the stock is to be fully paid when issued. However, stock is rarely issued at or below par value. If stock is issued below par value, then the initial purchasers of such stock are contingently liable to creditors if sales of the company's assets are not sufficient to pay the company's debts.[1] Reasons For Reducing Par ValueHowever, in most cases, this issue is a moot point. Only California and Maryland permit a company to issue stock below par. Therefore, in extraordinary cases when stock prices fall below par value, a company wishing to issue additional stock would be unable to do so without reducing par value. Proposals to reduce par value to facilitate the sale of additional stock are uncommon, since the par value of many issues today is $1 or less. Few companies, other than penny stocks, would conduct a public equity offering when the market value was so low. However, there are still instances of companies with $5 and $10 par values that may need to lower par value to sell additional stock. Another source of par value reduction proposals relates to legal requirements concerning the payment of dividends. All states have some type of restriction on payments of corporate dividends. While these laws and their interpretations vary from state to state, the general rule is that no amounts may be distributed among the shareholders of a company unless the corporate legal capital remains intact. Therefore, to some extent the amount of par value places a restriction on the amount of a company's capital that may be paid out to shareholders as dividends. Reducing par value may increase paid-in capital in excess of par which, in some states, may be available for distribution to shareholders. However, many states do not permit dividends to be paid out of capital unless the dividends are justified by earnings.[2] Companies may propose reductions in par value to conform to state legislative changes in the required minimum level of par value. In the case of certain regulated industries, such as banking and utilities, par value may be adjusted to meet core capital requirements. In most cases, adjusting par value is a routine financing decision and should be supported. Notes
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