Different Classes of Stock

The collective capital of a corporation is divided into shares of equal value. Ownership of a share or shares in a corporation is evidenced by formal certificates of stock. Each share carries with it the same privileges, powers, and duties of ownership as every other share of the same class. It represents a pro rata share of the total interest of its class. There may be several different kinds or classes of ownership within the corporation, these classes will have different privileges, and there may be other points of differentiation. The reason for setting up these different classes is almost always to secure additional capital from outside sources by making the investment as attractive as possible. Upon a reorganization, an adjustment of the various interests concerned may require a grading of ownership, a differentiation by classes in order equitably to satisfy the claims of all interested parties. These various classes of stock ownership will be discussed under the following heads:

Common Stock

Common or ordinary stock is that which is evidence of ordinary ownership in the corporation. The share of ownership of the original organizers of the corporation is usually in the common stock. The common stockholder is a sort of remainderman, a residuary legatee. Upon dissolution, after the special claims and privileges of the other classes of owners have been satisfied, the common stockholders come in for their share. After the satisfaction of the claims of preferred owners, the common stockholders have a right to all that is left, their rights being simply residuary. They are subsequent to those of the other classes and to that extent inferior to them, though they may be more valuable.

Preferred Stock

Preferred stock has some kind of preference over the common. Such stocks differ among themselves, there being no standardized features applicable in every way to all kinds of preferred stocks. The basic purpose of the various preferences is to make the stock attractive from an investment standpoint. Common to all preferred stocks, however, is a preference as to dividends. Whenever profits have been made and have been set aside for dividend purposes, the preferred stockholders receive their dividends ahead of the common stockholders. If only sufficient profits are available to meet the requirements of the preferred stockholders and are appropriated for that purpose, the common owners receive nothing. Stock may be preferred as to assets as well as to profits. By this is meant that in case of dissolution the net assets remaining after payment of all outside claims are applied first to satisfy the interests of the owners of preferred stock and any remainder then goes to the common stockholders.

Cumulative and Non-Cumulative. Preferred stock carries with it a definitely stated minimum rate of dividend. The preferred claim to the profits may be cumulative or non-cumulative. In the one case, if profits are insufficient at any time to meet the preferred dividend requirements or are not appropriated for that purpose, the claims of the preferred owners accumulate from period to period until satisfied in full. This satisfaction must take place before the ordinary owners can have any share in the profits. The rate of accumulation is the specified minimum and usually interest on unpaid dividends is allowed when the company finally settles these preferred claims. Of course, since dividends can be declared only out of profits, no claim for preferred dividends or any other kind can exist unless sufficient profits have been made. Non-cumulative stock is stock on which the dividend claim does not, if unsatisfied at any time, accumulate from period to period. Preferred stock is cumulative unless otherwise specified.

Dividends on cumulative stock do not have to be paid just because sufficient profits have been made. Declaration of dividends rests entirely with the board of directors who may see fit to appropriate profits to other purposes. A holder of non-cumulative stock may be very unjustly discriminated against in favor of the common stockholder by the withholding of all profits for a number of periods until a large amount has been accumulated. This is then disbursed as a dividend to the common owners after the deduction of as much as may be necessary to satisfy the preferred owner for the current period. On this account a non-cumulative stock is not attractive to investors.

Participating and Non-Participating. Preferred stock may be participating or non-participating. It is said to be participating when the terms under which it is issued provide that it shall share in any dividend in excess of its own specified minimum. Thus, if it is 6% preferred, after the preferred receives its 6% the common stock receives a like dividend, and then the preferred and common may share alike or in any agreed ratio in any further dividends declared in that year. Both participating and non-participating stock is either cumulative or non-cumulative. Preferred stock is non-participating when it is limited to the rate of dividend specified in the terms of its issue.