What Is Common Stock Classified As?

Common stock stands as a fundamental component of corporate finance, representing a share of ownership in a company. Investors acquire common stock to gain a stake in a business, which provides them with certain rights and potential benefits. This form of ownership is a primary way companies raise capital to fund operations, expansion, and other strategic initiatives.

Understanding Common Stock

Common stock is an equity security. Unlike debt instruments such as bonds, common stock does not represent a loan that must be repaid with interest. Instead, it places investors within the company’s capital structure as owners, sharing in its successes and risks. Companies issue common stock to raise funds directly from investors, which helps finance their ongoing business activities and growth.

This ownership grants common stockholders a residual claim on the company’s assets and earnings. This means that in the event of liquidation, common shareholders are paid only after all creditors, bondholders, and preferred shareholders have received their due. The potential for higher returns, through capital appreciation and dividends, often accompanies this increased risk compared to debt or preferred stock.

Common Stock on the Balance Sheet

On a company’s balance sheet, common stock is presented within the shareholders’ equity section. The primary accounts related to common stock on the balance sheet include Common Stock (or Capital Stock), Additional Paid-in Capital, Retained Earnings, and Treasury Stock.

The Common Stock account typically records the par value or stated value of the shares issued. Par value is a nominal amount assigned to each share, often a very low figure, and any amount received above this par value when shares are initially sold is recorded in the Additional Paid-in Capital (APIC) account. Therefore, when a company issues stock, the total cash received is split between the common stock account at its par value and the APIC account for the excess.

Retained Earnings also form a significant part of shareholders’ equity, representing the cumulative profits that a company has kept and reinvested in the business rather than distributing as dividends. While issuing common stock directly impacts paid-in capital, dividends paid to common shareholders reduce retained earnings. Treasury Stock, which consists of shares the company has repurchased from the open market, is presented as a contra-equity account, reducing the total shareholders’ equity.

Key Characteristics of Common Stock

Common stock ownership typically grants shareholders several important rights and potential benefits. A primary characteristic is the right to vote on corporate matters, such as electing the board of directors and approving significant company policies or mergers. This voting power provides common shareholders with a level of influence over the company’s governance.

Another characteristic is the potential to receive dividends, which are distributions of a company’s earnings. However, dividend payments are not guaranteed and are declared at the discretion of the company’s board of directors, unlike preferred stock which often has fixed dividend rates.

Categories of Common Stock Shares

Common stock can be categorized based on its issuance and ownership status. Authorized shares represent the maximum number of shares a company is legally permitted to issue, as outlined in its articles of incorporation. This number is typically set higher than immediately needed to allow for future capital raising or employee stock options without requiring frequent shareholder approval.

Issued shares are the total number of shares that a company has actually sold or distributed to investors from its authorized pool. Outstanding shares are those issued shares that are currently held by investors, including both public shareholders and company insiders. These outstanding shares are the ones that carry voting rights and are eligible to receive dividends.

Treasury stock refers to shares that the company has repurchased. Companies may buy back their own shares for various strategic reasons, such as increasing the value of remaining shares by reducing the total number outstanding, signaling confidence in the company’s valuation, or for use in employee compensation plans. Treasury shares do not have voting rights and do not receive dividends, and their acquisition reduces the number of outstanding shares.