What are shares of common or preferred stock?

Question

What are shares of common or preferred stock?

A share of stock represents an investor's (called a "shareholder") ownership stake in a Corporation. A person who holds a share has a financial interest in the Corporation - which may include voting rights, dividend rights and liquidity rights.

Preferred vs. Common Stock: An Overview

There are many differences between preferred and common stock, many of which are affected by the Corporation's Charter. The main difference is that preferred stock usually do not give shareholders voting rights, while common stock does, usually at one vote per share owned.

Preferred Stock

A main difference from common stock is that preferred stock generally comes with no voting rights. So when it comes time for a company to elect a board of directors or vote on any form of corporate policy, preferred shareholders have no voice in the future of the company.

Preferred stock functions similarly to bonds since with preferred shares, shareholders are usually guaranteed a fixed dividend in perpetuity. The dividend yield of a preferred stock is calculated as the dollar amount of a dividend divided by the price of the stock. This is often based on the par value before a preferred stock is offered. It's commonly calculated as a percentage of the current market price after it begins trading. This is different from common stock which has variable dividends that are declared by the board of directors and never guaranteed. In fact, many companies do not pay out dividends to common stock at all. Like bonds, preferred shares also have a par value which is affected by interest rates. When interest rates rise, the value of the preferred stock declines, and vice versa. Dividend payments are never guaranteed and a company's financial position may prohibit them from making dividend payments.

In a liquidation, preferred stockholders have a greater claim to a company's assets and earnings. This is true during the company's good times when the company has excess cash and decides to distribute money to investors through dividends. The dividends for this type of stock are usually higher than those issued for common stock. Preferred stock also gets priority over common stock, so if a company misses a dividend payment, it must first pay any arrears to preferred shareholders before paying out common shareholders.

Preferred Stock can also have other unique features, unlike common shares, preferred shares also have a call-ability feature which gives the issuing company the right to redeem the shares from the market after a predetermined time.

Common Stock

Common stock represents shares of ownership in a corporation and the type of stock in which most people invest. When people talk about stocks they are usually referring to common stock. In fact, the great majority of stock is issued is in this form. Common shares represent a claim on profits (dividends) and confer voting rights. Investors most often get one vote per share-owned to elect board members who oversee the major decisions made by management. Stockholders thus have the ability to exercise control over corporate policy and management issues compared to preferred shareholders.

When it comes to a company's dividends, the company's board of directors will decide whether or not to pay out a dividend to common stockholders. If a company misses a dividend, the common stockholder gets bumped back for a preferred stockholder, meaning paying the latter is a higher priority for the company. The claim over a company's income and earnings is most important during times of insolvency. Common stockholders are last in line for the company's assets. This means that when the company must liquidate and pay all creditors and bondholders, common stockholders will not receive any money until after the preferred shareholders are paid out.