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Direct purchase plans cut brokers out
The obvious appeal is the low fees
Canadian investors will soon have access to an ultra-cheap way of buying stocks that cuts brokers out of the picture.
It's called a direct purchase plan and it allows for shares to be purchased right from the issuing company. Several hundred U.S. companies offer DPPs that carry no fees or else charge a fraction of the commission levied even by a discount broker.
In Canada, the Ontario Securities Commission is preparing to issue proposed regulations for DPPs, possibly by early fall. If there are no objections from Bay Street, the way would be cleared for other provincial securities commissions to follow along and for companies to start offering the plans next year.
Direct purchase plans are as easy a way to buy stocks as you're likely to find. You just set up an account with a participating company and send a cheque or a series of post-dated cheques. You can also sell your shares through the plan.
"You're not going through a broker at all, you're dealing directly with the company and your shares are on the books of the company," says Chris Prince, vice-president of stock transfer services at trust company CIBC Mellon. Of course, plan members get all the usual shareholder trappings, including financial statements, annual reports and proxies for annual meetings.
DPPs work something like dividend reinvestment plans, or DRIPs. Many companies offering DRIPs have an option called a share purchase plan that lets investors put up new money to buy shares at the same time as their dividends are being reinvested. (Note: Many brokers will set up a DRIP for you, but don't expect it to include a share purchase plan option.)
The direct purchase plan has a few important advantages over DRIPs and their attached share purchase plans. For one thing, even companies that don't pay a dividend can offer a DPP.
Another advantage is that you can use a DPP to make your initial purchase of a company's stock. That's a real benefit because with a DRIP you have to buy a share through a broker, then have the share registered in your name at a cost of $30 or so in addition to your commission for buying the stock. There's even more paperwork involved because you then have to set up the DRIP with the transfer agent of the company involved.
The obvious appeal of a direct purchase plan is the low fees. If a company is selling you shares from its treasury, then there may be no fees at all. If the company has an investment dealer go into the market to buy the shares, then you'll pay a small commission.
DPP users are charged the wholesale brokerage commissions that a big company would enjoy. As well, the commissions are spread out among all the investors participating in the DPP, so each pays only his or her fair share.
Direct purchase plans have a more important benefit than low fees -- the ability to buy fractional shares. This means you can build a position in a company with small amounts of money invested whenever, either sporadically or on a regular basis.
CIBC Mellon, a leading administrator of corporate DRIPs, says some Canadian companies have already shown interest in setting up direct purchase plans. CIBC Mellon says the U.S. companies now offering the plans include blue chips like Coca Cola Co. and General Electric Co. mainly, but also technology plays like Cisco Systems Inc. and hot consumer names like Nike Inc. and Gap Inc.
"Direct purchase plans are particularly appealing to consumer-oriented corporations -- utilities, telcos and that kind of stuff," Mr. Prince of CIBC Mellon says. "They create a kind of brand loyalty. From a company's point of view, an owner-customer is going to be a more loyal customer."
DPPs also help companies raise capital at a low cost, and allow them to offset the influence of institutional shareholders by bringing in more retail shareholders.
Mr. Prince says the OSC's main concern in regulating direct purchase plans is to make sure there are standard practices and that investors are properly informed about them.
"The main thing is that you don't end up with a bucket shop operation where you have a less-than-honourable company flogging its own shares," he says.
Mr. Prince says he expects the introduction of DPPs to be quickly followed by a version available for registered retirement savings plans.
Despite their appeal for the small investor, direct purchase plans are only mildly popular in the United States. Maria Scott, editor of the American Association of Individual Investors Journal, explains this as being a result of a few notable drawbacks.
One is that investors buying through a DPP can't time the purchase of their shares to take advantage of price dips or to avoid upward surges. "This could easily eat up the cost difference from the lower commission," she says.
DPPs also create big tax headaches when you've sold your position and have to figure out what your buying costs were. There's also the major inconvenience of each DPP stock having its own account and statement, as opposed to having everything grouped together at an investment dealer.
Ms. Scott says DPPs are best for small investors without a lot of capital to invest. They're also great for getting kids involved in the market.
"It's hard to find an investment to get a kid interested in," she says. "But there are a lot of large companies that kids know that offer direct purchase plans."
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