What is a share?
In financial terms, the official share definition is a unit of ownership of a company or financial asset. In order for a company to raise capital, it may decide to sell shares to investors, who then become equity shareholders in the business. Shareholders then have the opportunity to earn dividends in return, with profit distributions depending on the company’s share price and overall performance.
There are a number of different types of shares including equity shares, preference shares, right shares, bonus shares, sweat equity shares (where companies issue shares at a discount or for consideration) and employees stock options plans.
Where have you heard about shares?
If you have ever bought into a company or looked into investing in shares, you will have come across the term ‘shares’. Shares are traded on major stock markets (such as the London Stock Exchange and the New York Stock Exchange) and form the basis of many investment and pension funds.
Shares are considered to be one of the best long-term investments, tending to outperform property, corporate bonds, government bonds and other asset types. After Brexit in 2016, share prices dived in value with many investors choosing to take advantage of this by investing in shares at lower prices in the hope of potentially increasing their long-term profit. A specific example of a company that witnessed a significant drop in their share price was Barclays PLC, which experienced the biggest share price drop alongside Barratt Developments PLC.
What you need to know about shares…
The terms ‘stocks’ and ‘shares’ are used interchangeably, though ‘stocks’ tend to refer to shares as an asset class in general, whilst ‘shares’ is used to talk about the issue of a specific company. When an investor buys shares, they become a shareholder and earn part of the profits, whilst at the same time undertaking the risk to bear losses in the event that the company performs poorly.
The process of purchasing and selling shares takes place in a share market and tends to involve a stockbroker with any income earned and received by the shareholder (usually as a distribution of profits) being referred to as a dividend. The distribution of a dividend may either be in cash or by the issue of further shares should there be a dividend reinvestment plan in place. Public companies tend to (though are not limited to) issue dividends on a fixed schedule, whilst cooperatives allocate dividends to members based on their activity. A company’s board of directors must approve all declared dividends before they can be paid out. When a company pays generous dividends, it is known as income stock.
Share markets and share trading
A share market, where share trading takes place, comes in two different forms: a primary share market and secondary share market. Companies entering the primary market tend to do so to raise funds by issuing shares to the public to raise money, whilst the secondary share market sees investors buy and sell already listed shares, normally through a broker. The secondary market allows companies to sell off their shares and exit the market completely should they wish to do so. When a company lists shares on the primary share market for the first time, the company becomes public via a process called an Initial Public Offering or IPO.
Share trading can also take place via spread bets and CFDs, which allow further trade flexibility and offer investors the chance to take long or short positions to trade in both bull markets and bear markets. Risks are associated however, including the circumstance that losses exceed deposits. It is worth noting, or confirming, that investing in shares and share trading is always done with the intention of making a profit.
Preferred stock v common stock
When a corporation is established, the owners of the company have the option to issue preferred stock or common stock, which is what most companies tend to opt for. Common stock is riskier than preferred stock for company owners as they can benefit shareholders through dividends and appreciation, whereas preferred stock has set payment criteria with regular dividend payments. Common stock also gives shareholders a say in the business and a right to vote in a company’s annual general meeting (AGMs), whereas preferred stock does not. If a company files for bankruptcy, preferred shareholders take priority and therefore receive payment before common shareholders. This is because preferred shareholders’ dividends are fixed so there is less risk involved. Equity shareholders, who receive a rate of dividend that’s dependent on the company’s profits, have the right to keep their equity stake in the company by buying additional shares in a rights issue.
A company’s board of directors is allowed to issue or has the right to issue only a certain number of shares each year; these are referred to as authorised shares. A company’s authorised shares are stated on a company’s articles of incorporation. Issued shares, on the other hand, refer to the number of shares that have been distributed or issued to shareholders for the purposes of ownership. Directors have the choice of how many authorised shares are appropriate for their company and have the option to conduct a meeting to increase the number of authorised shares should they wish to do so.
When there are authorised shares outstanding, the shareholders’ ownership is affected. For example, a director of a company with ten shareholders and 20,000 shares may decide to issue only 1,000 shares to each shareholder, totalling 10,000 issued shares. Shareholders would then own 10% of issued shares, with the remaining 10,000 shares potentially being issued at a later date depending on the preference of the directors.
A company’s share price at the time that the share is bought and sold on the market indicates the company’s market value, which is worked out by multiplying the share price by the number of shares outstanding. Company profits and dividends are generally tax deductible but this depends on the country; for example in the United Kingdom (as of the 2017/2018 tax year) dividends are taxed at a rate of 7.5% for basic-rate tax payers with the rate increasing to 32.5% for higher-rate tax payers and 38.1% for additional rate payers. The first £5,000 of dividend income is not taxed. In India however, dividends are tax-free for shareholders receiving the dividends, but the company issuing the dividend must pay dividend distribution tax at 12.5%.
Stock market charts
Share prices are often displayed in a stock market chart, which communicates the stock’s direction in terms of price in a given period of time. Each bar tends to represent a day in the stock market, or it can represent minutes, hours, weeks or months. A candlestick chart is often used to represent share price – as seen below:
Share prices can also be demonstrated in an OHLC chart – as exampled below:
In the past, share certificates were also issued to shareholders as proof of their ownership; however, with technology use increasing day by day, share certificates are often issued electronically via specialised systems such as CREST or DTCC.
Find out more about shares…
Our online glossary contains many different definitions on financial terms particularly on the topic of shares, such as shareholders, dividends and stock market. We also have a detailed definition of portfolio, which is essentially a big briefcase containing an individual’s entire collection of financial assets including stocks, bonds, property and cash equivalents.