An ordinary share, also known as common stock, represents a fundamental form of proportional ownership of a company, granting shareholders a claim on the company's assets and earnings.
Understanding Ordinary Shares
Ordinary shares are the most common type of equity issued by companies and are central to the stock market. When you own ordinary shares, you become a part-owner of the issuing company. This ownership is proportional to the number of shares you hold relative to the total number of ordinary shares outstanding. Unlike preferred shares, which come with guaranteed dividends at a set percentage, owners of ordinary shares may or may not receive dividends based on a company's performance.
Key Features of Ordinary Shares
Ordinary shares come with several distinct characteristics that define their role and value to investors.
1. Proportional Ownership
As highlighted in the reference, ordinary shares of stock represent proportional ownership of a company. This means that if a company has 1 million ordinary shares outstanding and you own 1,000 shares, you own 0.1% of that company. This ownership gives you a claim on the company's profits (through dividends) and assets (in the event of liquidation, though typically after other claimants).
2. Voting Rights
A significant feature of ordinary shares is the power they give to shareholders. These shares come with voting rights, typically equaling one vote per share. This right allows shareholders to:
- Elect the company's board of directors.
- Vote on major corporate policies, such as mergers and acquisitions.
- Approve or reject significant changes to the company's charter.
This power enables ordinary shareholders to influence the company's management and strategic direction.
3. Dividend Potential (Variable)
One of the key differences from preferred shares is in dividend distribution. Owners of ordinary shares may or may not receive dividends based on a company's performance. Dividends are typically paid out from a company's profits, and the decision to pay them, as well as the amount, is at the discretion of the board of directors. If a company performs well, it may declare dividends, but it might also choose to reinvest profits back into the business for growth.
4. Capital Appreciation Potential
Ordinary shares offer the potential for significant capital gains. If the company's value increases due to strong performance, market demand, or growth prospects, the market price of its ordinary shares will likely rise. Shareholders can then sell their shares for a profit.
5. Residual Claim on Assets
In the event of a company's liquidation, ordinary shareholders have a residual claim on the company's assets. This means they are last in line to receive payment, after all creditors, bondholders, and preferred shareholders have been paid. While this indicates a higher risk, it also means they stand to benefit most if there's significant value remaining.
6. Limited Liability
A crucial protection for ordinary shareholders is limited liability. This means that an investor's financial risk is limited to the amount they have invested in the shares. Their personal assets are typically not at risk if the company incurs debts or faces legal issues.
Ordinary Shares vs. Preferred Shares
Understanding the distinctions between ordinary and preferred shares is essential for investors. The provided reference explicitly highlights a key difference related to dividends.
| Feature | Ordinary Shares | Preferred Shares |
|---|---|---|
| Ownership | Proportional ownership of a company | Equity ownership, but often without voting rights |
| Voting Rights | Yes, typically one vote per share | Generally no voting rights |
| Dividends | May or may not receive dividends based on a company's performance | Guaranteed dividends at a set percentage |
| Claim on Assets | Residual claim (last in line) | Higher priority than ordinary shares |
| Capital Gains | Higher potential for capital appreciation | Less potential for capital appreciation |
| Risk Level | Generally higher | Generally lower (due to fixed dividends and priority) |
Practical Insights for Investors
- Growth Focus: Investors seeking long-term growth and capital appreciation often favor ordinary shares.
- Influence: For those who want a say in company management, ordinary shares are the only option among equity types.
- Income vs. Growth: If steady income from dividends is the primary goal, preferred shares might be more suitable, whereas ordinary shares offer variable income and potentially higher growth.
- Market Volatility: The value of ordinary shares can be more volatile due to market sentiment, company performance, and economic conditions.
Ordinary shares are a cornerstone of financial markets, offering investors a direct stake in a company's success and the potential for substantial returns, albeit with inherent risks.
