DreamWorks Animation, led by billionaire Microsoft founder Paul Allen, went publ

Question

DreamWorks Animation, led by billionaire Microsoft founder Paul Allen, went public in a recent year with its class A commonstock at $28 per share, raising $650 million. By the end of the first day, it was up 27 percent to $38 per share, giving the company a value of almost $1 billion. This initial enthusiasm did not last. By the end of 2007, the price was only around $25 per share. As a growing company that has produced such animated hits as Shrek and Shrek II, DreamWorks could have borrowed significant funds by issuing long-term debt.

What are some advantage of issuing common stock as opposed to bonds? What are some disadvantages? Need at least 250 words

Explanation / Answer

This is a common question among investors. Stocks and bonds differ dramatically in their structures, payouts, returns and risks. In order to answer this question, we need to go through a brief description of both stocks and bonds.

A bond is a form of debt with which you are the lender instead of the borrower. Bonds are contractual loans made between investors and institutions that, in return for financing, will pay a premium for borrowing, known as a coupon. Additionally, the bond's face value is returned to the investor at maturity. The guarantee of payback and all coupon payments relies solely on the ability of the borrower to generate enough cash flow to repay bondholders.

Stocks are a form of ownership; they represent participation in a company's growth. Generally, investors are given no promises about returns of the initial investment. In fact, the profitability of the investment depends almost entirely upon rising stock price, which, at the most fundamental level, relates directly to the performance and growth (increasing profits) of the company.

So this leads to the original question: which security is better? The answer is neither. Stocks and bonds both have their pros and cons depending on what you are looking for. For example, risk-averse investors looking for safety of capital and who prefer a known periodic payment structure (i.e. coupon payments) for a limited time frame would be better off investing in bonds. On the other hand, investors who are willing to take on greater risks than bondholders and who would prefer the benefit of having partial ownership in a company and the unlimited potential of a rising stock price would be better off investing in stocks.

However, the disadvantage of stocks versus bonds is that stocks are not guaranteed to return anything to the investor while the coupon payments and principal of bonds are. Thus, the possibility for high returns is greater with stocks but so is the possibility of losing money

While there are numerous advantages, common stocks, like all investments, have some distinct disadvantages which investors must remain aware of:

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