Quick Answer
Common stock is the most basic form of equity ownership in a corporation, giving shareholders limited liability and no guaranteed right to dividends. Shareholders vote using statutory voting, which favors majority owners, or cumulative voting, which favors minority owners. Dividend dates follow this order: declaration, ex-dividend, record, and payable.
Common stock is the most basic form of equity ownership. It represents a direct ownership stake in a corporation.
What Is Common Stock?
- Common stock represents ownership (equity) in a corporation
- Shareholders are residual owners: they have a claim on assets only after all creditors and preferred stockholders are paid
- Limited liability: the maximum a shareholder can lose is the amount invested
- Returns come from two sources: dividends (if declared) and capital appreciation
- Unlimited upside potential; downside limited to total investment
Think of it this way: Owning common stock is like being the last person in line at a buffet. Everyone else (creditors, bondholders, preferred stockholders) gets to eat first. Whatever is left over is yours. The upside? There is no cap on how much food could be on the table.
Exam Tip: Gotchas
- Limited liability means shareholders can lose their entire investment, but nothing more. A creditor of the corporation cannot come after a shareholder's personal assets.
Authorized, Issued, Outstanding, and Treasury Stock
| Term | Meaning |
|---|---|
| Authorized | The most shares the corporation's charter lets it issue |
| Issued | Authorized shares the corporation has actually sold or distributed; issued can never exceed authorized |
| Treasury stock | Issued shares the corporation later bought back and still holds |
| Outstanding | Issued shares in investors' hands: issued minus treasury stock |
- Treasury stock is not outstanding, so it is not voted at shareholder meetings and is not counted among the shares outstanding
- Treasury stock is not authorized but unissued stock. Treasury shares were issued once and then reacquired; unissued shares were never issued at all
Example: A charter authorizes 10 million shares. The company has issued 6 million and bought back 1 million. Issued is 6 million, treasury stock is 1 million, and outstanding is 5 million.
Voting Rights
Common stockholders have a voice in major corporate decisions. Two voting methods exist:
| Voting Method | How It Works | Who Benefits |
|---|---|---|
| Statutory voting | One vote per share, per director position | Majority shareholders |
| Cumulative voting | Total votes = shares owned × director seats open; they can be split any way, including all on one candidate | Minority shareholders |
Example: 200 shares and 4 open seats gives 800 votes. Statutory: up to 200 votes for each seat. Cumulative: all 800 can go to one candidate.
What shareholders vote on:
- Election of the board of directors
- Stock splits
- Mergers and acquisitions
- Issuing new shares
- Shareholders may assign their votes to someone else via a proxy (written authorization to vote on behalf of another shareholder)
Exam Tip: Gotchas
- Cumulative voting benefits minority shareholders because they can concentrate all their votes on one director candidate. Statutory voting benefits majority shareholders because they win every seat.
Dividend Characteristics
Dividends are cash payments distributed from corporate earnings, but they are never guaranteed.
- Dividends are declared at the board of directors' discretion
- Paid from after-tax corporate earnings
- Cash dividends are taxable as ordinary income or qualified dividends
- The ex-dividend date is the first date a buyer will NOT receive the declared dividend
Key dividend dates (in chronological order):
| Date | What Happens |
|---|---|
| Declaration date | Board announces the dividend |
| Ex-dividend date | First day the stock trades without the dividend (set by the listing exchange for exchange-listed stocks, or by FINRA for OTC stocks; for a regular dividend under T+1 settlement, the same day as the record date) |
| Record date | Shareholders on this date receive the dividend |
| Payable date | Dividend is actually paid |
Exam Tip: Gotchas
- Common stockholders do NOT have a right to dividends. They only have a right to receive dividends IF declared by the board. The board can choose to reinvest profits instead.
- The ex-dividend date is set by the listing exchange for exchange-listed stocks, or by FINRA for OTC stocks, not the company. For a regular dividend under T+1 settlement, the ex-date is the same day as the record date. A very large distribution (25% or more of the stock's value) is the exception: its ex-date is the first business day after the payable date.
What Should You Check on Exam Day?
- Can you explain why limited liability caps a shareholder's loss at the amount invested?
- Do you know the difference between statutory voting and cumulative voting, and who each benefits?
- Can you tell authorized, issued, outstanding, and treasury stock apart, and find outstanding as issued minus treasury?
- Do you know why common stockholders have no guaranteed right to receive dividends?
- Can you state the four dividend dates in order, and who sets the ex-dividend date for exchange-listed and OTC stocks?