Common Stock

Definition

Common stock represents ownership shares in a corporation, granting shareholders voting rights and the potential to receive dividends. It serves as a fundamental way for companies to raise capital and allows investors to participate in the company’s growth, reflecting changes in ownership interests and influencing the calculation of earnings per share.

5 Must Know Facts For Your Next Test

1. Common stockholders are entitled to vote on important company matters, such as electing the board of directors, which can influence management decisions.
2. When companies issue additional common stock, it can dilute existing shareholders' ownership percentages, impacting their voting power and potential dividends.
3. Earnings per share (EPS) calculations for common stock can be basic or diluted, reflecting the potential impact of convertible securities or stock options on total shares outstanding.
4. Dividends on common stock are not guaranteed; companies can choose to retain earnings for growth rather than distribute them to shareholders.
5. In the event of liquidation, common stockholders are last in line to receive any remaining assets after all debts and preferred stockholders have been paid.

Review Questions

• How does owning common stock influence a shareholder's ability to affect corporate governance?
  • Owning common stock grants shareholders voting rights, allowing them to participate in key decisions such as electing the board of directors. This means that shareholders can influence who runs the company and how it is managed. Their votes play a crucial role in shaping corporate policies and strategies, directly impacting the company's direction and performance.
• Discuss the potential effects on existing shareholders when a company issues new common stock.
  • When a company issues new common stock, it can dilute the ownership percentage of existing shareholders. This dilution affects their voting power and may decrease their share of future dividends. Additionally, if the market perceives the issuance negatively, it could lead to a decline in the share price. Hence, while raising capital can benefit the company, it poses risks to current shareholders' interests.
• Evaluate how changes in common stock ownership might impact the calculation of basic versus diluted earnings per share.
  • Changes in common stock ownership significantly affect both basic and diluted earnings per share (EPS) calculations. Basic EPS considers only outstanding common shares, while diluted EPS includes potential shares from convertible securities or options that could be exercised. If more common stock is issued or if there are significant dilutive instruments outstanding, diluted EPS may show lower profitability per share compared to basic EPS. This distinction is vital for investors assessing a company's true earnings performance and potential future profitability.

Related terms

Preferred Stock:

A class of stock that typically provides fixed dividends and has priority over common stock in the event of liquidation, but usually does not carry voting rights.

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

Stockholder Equity: The residual interest in the assets of a company after deducting liabilities, which includes common stock, preferred stock, retained earnings, and additional paid-in capital.