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16 October, 2021 20:48 IST
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Types of Stocks
 
 
Two Classes of Stocks
 

We live in a class-ridden society. Stocks too have their two major classes or types: ordinary and preference.

Ordinary stocks, sometimes also called equity stocks or common stocks, are really for the general public without any bar. You, me and just anyone can buy them (and proudly say we have a stake in the company).

Before we step further, let's clear one thing upfront. By equity we mean stocks, right? And vice versa? We use equity and stocks interchangeably. Equity refers to ordinary stocks. And thatís what concerns us here because only ordinary stocks can be purchased by people like you and traded on the stock exchanges. Stocks again refers to equity. Unless we mention preferred stock, stock is always the other type meant for us. OK?

Individual investors can also acquire preference stocks, just that companies in India havenít bothered to offer them so far to the general public.

Holding equity (savvy way of saying you own those pricey little share certificates) entitles you to a share of the earnings and the assets of a company. What that means is that if a company records profits for a year you are entitled to a share of the profits. The share of the profits or earnings the company is decides to give you is called dividend.

How nice! But did you get the catch when we said on `entitledí and `decides to give youí? Because what happens is that ordinary shareholders will only get the dividend after everyone else, i.e. preference shareholders have settled their share of the earnings. So, if the company chairman says no dividends this year, you can't kidnap him till he comes out with your dividend unless of course, you have no other way to earn infamy.

Preference shareholders are privileged guys. They get their share of the earnings before the ordinary shareholders. In other words, preference stocks will always have an assured dividend. Whether those shareholders actually get paid depends on whether the company has enough resources to pay up. If that was not enough, those privileged guys also have the "added" advantage. All their missed dividends keep getting added while for ordinary shareholders dividends once missed are missed forever! And when the company does declare windfall profits, it will first pay the cumulative dividends of the preference shareholders and then the ordinary shareholders.

Cheer up, the flip side is, those privileged guys don't get to trade their stocks on the exchanges Thatís because though legally preference shares can be listed on exchanges, nobody has ever done so. This means that preference stocks don't appreciate as much as ordinary stocks do.

Let's say quits! Enough of investing and now you want your money back. To redeem is to get back the principal (i.e. the price at which you purchased) in any security like a bond, a preference stock, or a mutual fund share before or at the time of maturity. For a company or an institution that issued you the security, redemption then means, quite simply, buying back the security.

Ordinary stocks are not redeemable. Once out of the company's kitty, the company doesn't have to pay back its equity stocks until it shuts down. Hence, for a company, equity shares provide it permanent capital. One fine day if you decide to get rid of the stocks of a company, you canít walk into the company and ask them to buy back or redeem the shares from you.

What you can do, and as the law permits, is to transfer those ordinary shares to someone else. A job that your broker will do for you. Unless you are too benevolent, transfer doesnít mean you hand over your share certificates to your broker. You actually sell it for a price, and sometime make a killing out of it. As to how one can make money out of stocks, a little later.

Preference shares are redeemable. The company can repay the shareholder in return for the stocks. The amount repaid in most cases includes the premium over the current market price of the stock. Usually preference stocks are issued to shareholders for a particular period. A company can also, if it feels it's too costly to keep paying dividends, buy back preference stocks after serving a proper notice to the stockholders.

If you have realised preference stocks are not exactly pure stocks. They are a cross between equity stocks and bonds, which have an assured dividend. There are some preference stocks, however, which are non-cumulative; the dividend lapses if the company is unable to pay it. Preference stocks are generally tradable. There are some convertible types that allow the shareholders to convert such stocks into ordinary shares after a particular period or after fulfilling certain conditions. There are also a non-redeemable variety of preference stocks where such stocks can only be redeemed at the time of a company's liquidation. Preference stocks are generally given out to banks, financial institutions and rich guys with high net worth.

Holding equity also gives you the right to vote for the company's board of directors. The number of votes depends on the number of stocks you hold. On a special gathering every year called the annual general meeting (AGM) you also get to vote for or against the company's annual report placed before all shareholders. However, preference shareholders don't get to vote in the AGM.

All that is solid melts into air. Apparently healthy companies sometimes wind up all of a sudden. As a part owner, all shareholders get paid according to their stake in the company. Ordinary shareholders will be the last to get paid. All debts of the company must be settled first, including the claim on the assets of a company by the preference shareholders. It could well be that ordinary shareholders get nothing if no assets are left after clearing off debts and paying preference shareholders.

As an equity shareholder you also have what are called pre-emptive rights. That means that in case a company decides to offer new equity shares existing equity shareholders are offered first before the company can go to the open market with a public offering.

 
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