Common stock is a security that represents ownership in a company. The owners of common stock are known as common shareholders or equity stockholders. One share out of the total common stock represents fractional ownership based on the total number of outstanding shares.
For example, if a company has 10,000 shares of common stock outstanding for a year and you bought 1,000 shares from the market, you are 10% owner of that company.
When a new company is formed, based on the capital requirements, common stock is sold to shareholders to raise money for the business. In return to their investments, shareholders earn a return on their money in case the company is making a profit.
Ownership of these common stocks is evidenced by a share certificate. These stockholders have following rights for holding shares in the company;
- Voting their shares to elect board of directors and to take important decisions such as auditors appointment, merger or acquisition.
- Gets dividend payment in proportion to the number of shareholding.
- In case of liquidation, they have right to company’s assets only after bond holders, preferred shareholders, creditors and other debt holders are fully paid. This means these shareholders are at the bottom of ownership structure at the time of liquidation. This is why common stocks are riskier than debt and preferred shares.
- Claim to the company’s profit after bond holders and preferred shareholders have been paid.
- In the event of bankruptcy, the limited liability feature of a company limits the amount of the loss to the extent of capital invested by shareholders.
How common stocks are recorded on the balance sheet
Balance sheet of a corporation is published by the management to give a snapshot of assets, liabilities and stockholder’s equity on a particular date. Common stock can be found in the stockholder’s equity section.
Value of the common stock on the balance sheet refers to the par value of the share, which is different from the market price of the share.
Within shareholder’s equity, you will also get retained earnings number. This figure will tell you how much money the company has retained out of its profit after paying a portion of it as dividends. This amount is kept for reinvestment within the company or pay down debts.
Equity shares are considered as an important investment which comes with higher risk and return. Over the long run shares outperform all other investments. Stocks are categorized based on the company in which you invest and total market capitalization. Based on the type of company in which you have invested, common stock can be divided into blue-chip, growth, value, cyclical, defensive, penny, large-cap, mid-cap or small-cap.
