What is Common Stock? Definition, Features & Types

what is common stock

What is Common Stock?

Common stock is a type of security that represents the ownership of a company. It is also known as ordinary shares or equity shares. The buyer of the common stock becomes the owner of the company depending upon how many units he/she bought out of the total outstanding share. The holder of common stock is known as a shareholder. Common shareholders receive a dividend on their investments. A dividend is a part of the profit distributed by the company to its shareholders.

Only a company in profit can distribute dividends. But even in the profit, there is no compulsion for a company to distribute profit as a dividend to the shareholders. The decision of dividend distribution solely depends upon the management team of the company.

Two basic characteristics of the common stock are the residual claim and limited liabilities. The residual claim is that stockholders have the last priority to receive dividends and investment returns if the company goes bankrupt.

Limited liability means that the shareholders lose only his/her capital at the bankruptcy.  They do not have to put in additional capital to pay the liabilities uncovered by the assets of the company. But in the case of partnership and sole proprietorship businesses, the owners have to pay the liabilities by bringing from their pockets too. A shareholder has various rights in the company.

A shareholder’s rights are collective and specific. Collective rights can be exercised collectively whereas specific rights can be exercised individually.

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What are Collective Rights in Common Share?

  • The right to elect the directors of the company. Each common stock has one vote.
  • The right to authorize the sale of fixed assets.
  • The right to adopt and amend by-laws.
  • The right to enter into a merger.
  • The right to issue preferred stock, debenture, bonds, and other securities.
  • The right to change the amount of authorized capital issued capital, and paid-up capital.
  • The right to amend the corporate charter.

What are Specific Rights in Common Share?

  • The right to sell their stock certificate and to transfer the ownership.
  • The right to vote in all manner prescribed by the corporate charter.
  • The right to share the residual amount of assets proportionately at the time of liquidation.
  • Stockholders also have the right to share new stock proportionately (right share).
  • Stockholders have the right to share any distribution of the company’s earnings in the form of dividends on a per share basis, equally.
  • Right to inspect the company books (minute).
  • The right to participate in general meetings.

Features of Common Stock

There is less chance of receiving a capital refund by the common stockholders when a company goes bankrupt. Therefore, it is considered a highly risky investment. However, common stock is the only instrument that enables an investor to maximize his/her wealth. The world’s richest people’s wealth is also counted from the value of their common stock.

The price of the common stock remains highly volatile. Thus, those who like to take risks, invest in common stock. Common stock can be used as an investment alternative with different objectives like earning a profit, maximizing wealth, and managing the present and future financial security for prestige and self-satisfaction

Types of Commons Stock

There are many types of common stock according to their nature. Investors can select the stocks according to their objectives. Major types include:

  1. Cash Cow Stock
  2. Growth Stock
  3. Pig Stock
  4. Income Stock
  5. Bonus Share

1. Cash Cow Stock

Cash cow stock is a type of stock that gives high dividends in a regular basis. Nabil Bank, Uniliver Nepal (UNL), Jeevan Bikas Laghubitta Bittiya (JBLB), and Himalayan Distillery Limited (HDL) are considered to be a cash cow.

2. Growth Stock

Stock that has a regular growth in market price. Commons stock of Nabil Bank (NABIL), Manjushree Finance (MFIL), Nepal Life Insurance (NLIC), and Chilime Hydropower (CHCL) are some of the growth stocks.

3. Pig Stock

Stock that grows in a fast rate in a short period of time is called pig stock. Shares that are distributed in the primary market (IPO) grow very fast for a certain period of time. These stocks are considered to be big stocks.

4. Income Stock

Stocks that give a regular dividend are income stocks. These stocks are appropriate for investors who want to manage their retirement life.

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