Common Stock

Definition

Common stock is a type of equity security that represents ownership in a corporation, granting shareholders the right to vote on corporate matters and to receive dividends. Unlike preferred stockholders, common stockholders have a residual claim on assets in the event of liquidation, meaning they are last in line after creditors and preferred shareholders. This type of stock is crucial for companies seeking to raise capital through equity financing, as it allows them to share ownership and potential profits with investors.

5 Must Know Facts For Your Next Test

1. Common stockholders have voting rights, allowing them to influence corporate governance decisions, such as electing the board of directors.
2. Dividends for common stock are not guaranteed and can be variable, depending on the company's profitability and board decisions.
3. In a liquidation scenario, common stockholders are only paid after all debts and obligations have been settled and preferred stockholders have been compensated.
4. Common stock is often considered more volatile than preferred stock because its value can fluctuate significantly based on market conditions and company performance.
5. Many companies use common stock as a way to attract long-term investors who are interested in both capital appreciation and potential dividends.

Review Questions

• How does owning common stock impact an investor's ability to influence corporate governance?
  • Owning common stock gives an investor voting rights, which means they can participate in key decisions that shape the company's future. This includes voting on issues like board member elections and significant corporate policies. Therefore, common stock ownership empowers investors to have a say in how the company is run, unlike preferred stockholders who typically do not have voting privileges.
• Evaluate the risks and rewards associated with investing in common stock compared to preferred stock.
  • Investing in common stock presents higher risks due to its volatility and the fact that dividends are not guaranteed. However, it also offers potentially greater rewards since common shareholders may benefit from significant capital appreciation if the company performs well. In contrast, preferred stock tends to be more stable with fixed dividend payments but provides less upside potential during times of rapid company growth.
• Assess the role of common stock in a company's capital structure and how it can impact funding strategies.
  • Common stock plays a crucial role in a company's capital structure by allowing businesses to raise funds without incurring debt. By issuing common shares, companies can attract investment while sharing ownership with their shareholders. This strategy can positively affect funding approaches, as it offers flexibility and aligns investor interests with company growth. Additionally, a strong base of common shareholders can enhance market credibility and attract further investments.

Related terms

Equity Financing: The method of raising capital by selling shares of the company, giving investors ownership stakes in the business.

Dividends: Payments made by a corporation to its shareholders, usually derived from profits, reflecting a portion of the company's earnings.

Preferred Stock: A type of stock that gives holders preferential treatment in terms of dividends and claims on assets during liquidation, but typically lacks voting rights.