QS Study

Common Stock the type of stock that is present at every corporation. Shares of common stock provide evidence of ownership in a corporation. Holders of common stock elect the corporation’s directors and share in the distribution of profits of the company via dividends. If the corporation were to liquidate, the secured lenders would be paid first, followed by unsecured lenders, preferred stockholders, and lastly the common stockholders.

Rights of common stockholders:

  • Voting Power on Major Issues

This includes electing directors and proposals for fundamental changes affecting the company such as mergers or liquidation. Voting takes place at the company’s annual meeting. If you can’t attend, you can do so by proxy and mail in your vote.

  • Ownership in a Portion of the Company

Previously we discussed the event of a corporate liquidation where bondholders and preferred shareholders are paid first. However, when business thrives, common shareholders own a piece of something that has value. Said another way, they have a claim on a portion of the assets owned by the company. As these assets generate profits, and as the profits are reinvested in additional assets, shareholders see a return in the form of increased share value as stock prices rise.

  • The Right to Transfer Ownership

Right to transfer ownership means shareholders are allowed to trade their stock on an exchange. The right to transfer ownership might seem mundane, but the liquidity provided by stock exchanges is extremely important. Liquidity is one of the key factors that differentiate stocks from an investment like real estate. If you own property, it can take months to convert your investment into cash. Because stocks are so liquid, you can move your money into other places almost instantaneously.

  • An Entitlement to Dividends

Along with a claim on assets. you also receive a claim on any profits a company pays out in the form of a dividend. Management of a company essentially has two options with profits: they can be reinvested back into the firm (hopefully increasing the company’s overall value) or paid out in the form of a dividend. You don’t have a say in what percentage of profits should be paid out – this is decided by the board of directors. However, whenever dividends are declared, common shareholders are entitled to receive their share.

  • Opportunity to Inspect Corporate Books and Records

This opportunity is provided through a company’s public filings, including its annual report. Nowadays, this isn’t such a big deal as public companies are required to make their financials public. It can be more important for private companies.

  1. The Right to Sue for Wrongful Acts

Suing a company usually takes the form of a shareholder class-action lawsuit. A good example of this type of suit occurred in the wake of the accounting scandal that rocked WorldCom in 2002, after it was discovered that the company had grossly overstated earnings, giving shareholders and investors an erroneous view of its financial health. The telecom giant faced a firestorm of shareholder class-action suits as a result.