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What types of shares can a company have? Share Classes

share classes

A company can have common shares, preferred shares, treasury shares, restricted shares, tracking shares, dual-class shares, employee stock options and phantom stock.

  • Common Shares – Represent ownership interest, and provide voting rights and rights to dividends and assets.
  • Preferred Shares – Have priority over common shares for dividends and assets but usually no voting rights.
  • Treasury Shares – Previously issued shares repurchased by the company. Have no rights while held.
  • Restricted Shares – Owned by insiders but with sale restrictions for some time.
  • Tracking Shares – Linked to the performance of a specific business unit.
  • Dual Class Shares – Provide some shareholders with extra voting rights over others.
  • Employee Stock Options – Give employees the right to purchase shares at a set price.
  • Phantom Stock – Notional shares that pay out the equivalent cash value. No new shares were issued.

Each type of share comes with its own rights and purchasing rules. Read on for an overview of each.

What Are Shares? An Overview

Shares are units of ownership within an incorporated company. Each share represents a percentage ownership stake based on the number of shares held versus the number of shares available. For example, if 100 shares were issued in company A and director 1 and director 2 each owned 50 shares, they would each have a 50% stake in the company.

Owning shares is a way to earn additional income through dividends. Dividends are shares of a company’s profits after all its liabilities have been settled.

Shares are used to raise capital from selling equity to investors as an alternative to taking on debt financing. This means that investors pay money into the company in return for shares which give them a percentage ownership.

Shareholders get certain rights and responsibilities based on the class of share that they own. Common rights include voting, dividends and assets if liquidation occurs. Shareholders are not liable for company debts, so any losses are capped at the amount that they originally invested and shares can be bought or sold on stock exchanges and markets.

The value of shares will vary depending on supply and demand, the performance of the company, how the investor views the company and external economic factors.

In summary, shares are ownership stakes in a company that give the owner various rights within a company. They can be bought and sold but the number of shares available is determined by the company’s structure and rules of incorporation.

The Main Share Classes

The main share classes are as follows:

Common shares

Also known as ordinary shares, common shares are the most basic type of share available. This share gives the share owner voting rights and they are likely to receive dividend payments after preferred shareholders.

Some key features of common shares:

  • Voting Rights – Common shareholders can elect the board of directors and vote on company decisions. Each share owned equates to one vote.
  • Claim on Profits – Common shareholders have the right to receive dividends if and when the company declares them. Dividends are paid after obligations to preferred shareholders.
  • Claim on Assets – If the company liquidates, common shareholders have a right to the company’s remaining assets after creditors, bondholders, and preferred shareholders are paid.
  • No Guarantees – Common shareholders have no guaranteed dividends or assets. The board can decide whether to pay dividends or not, and shareholders may not receive assets in case of bankruptcy.
  • Unlimited Appreciation – The value of common shares can be appreciated without limits depending on the company’s performance and market conditions.
  • Limited Liability – Shareholders’ liability is limited to their investment. They are not personally liable for the company’s debts.

Preferred Shares

Also known as preference shares, preferred shares take priority over common shares when it comes to dividend payments and asset claims if the company liquidates.

Some key features of preferred shares:

  • Preferential Dividends – Preferred shareholders get priority for dividend payments over common shareholders. The dividend rate is set and usually guaranteed.
  • Priority Claim on Assets – In case of liquidation, preferred shareholders have a right to assets before common shareholders.
  • No Voting Rights – Preferred shareholders usually do not have voting rights on corporate matters.
  • Limited Appreciation – Preferred shares appreciate up to the redemption price but not beyond.
  • Types – Different types of preferred shares include cumulative (unpaid dividends accumulate), participating (get extra dividends), convertible (can convert to common shares) etc.

Preferred shares provide more safety and fixed returns but lower potential gains compared to common shares. They are less risky for investors.

Treasury Shares

Also known as treasury stock, treasury shares refer to shares that were initially issued by a company but were later bought back. This might happen due to the shares increasing in market value, the need to spend surplus company cash, and preventing takeovers by unfavourable shareholders.

Key points on treasury shares:

  • Owned by the Company – Treasury shares are owned by the company itself. They exist in the company’s treasury.
  • No Voting Rights – Treasury shares do not have any voting rights or claims on dividends or assets.
  • Reissued or Retired – Companies can reissue treasury shares later or retire/cancel them to reduce the total shares outstanding.
  • Impact on Financials – Repurchasing shares reduces assets and increases equity on the balance sheet. Key ratios like EPS and ROE improve.
  • Regulations – Companies face restrictions on how many shares they can repurchase, requiring shareholder approval. Buybacks are regulated for potential market manipulation.

Treasury shares provide companies more flexibility over capital structure and can benefit shareholders if done at the right valuation. But they could also be misused by companies and investors should assess motivations.

Restricted Shares

These are shares that are owned by important company figures like executives or employees and have restrictions on their sale or transfer for some time.

Key aspects:

  • Owned by Insiders – Restricted shares are granted to insiders like executives as part of compensation. The shares are owned by them but have additional conditions.
  • Vesting Period – The sale of shares is often prohibited for a defined vesting period, like 1-4 years. This requires the insider to remain with the company for a certain duration.
  • Performance Targets – Restrictions can be lifted if the company or insider achieves certain targets like profit level, stock price etc. This aligns insider incentives with company performance.
  • Forfeiture Risk – If vesting conditions are not met, the insider may have to forfeit the shares back to the company. So restricted shares have high retention power.
  • Tax Advantages – Restricted shares allow companies to offer ownership benefits to insiders with preferential tax treatment compared to options or cash compensation.
  • Restricted shares help attract and retain talent by offering ownership incentives while aligning insider interests with shareholders and the company’s long-term success through targeted restrictions.

Tracking Shares

A tracking share is linked to the performance of something else, usually a segment of business or division in a larger company.

Some features of tracking shares:

  • Linked to Unit Performance – Tracking shares track the financial performance of a distinct business unit. The share value moves based on the unit’s results.
  • Separate from Parent – The tracked unit functions largely as a separate company within the parent entity. It maintains its financial statements.
  • No Ownership Rights – Tracking shareholders do not directly own the tracked unit. They just have a financial interest in its performance.
  • Limited Voting Rights – Tracking shares usually have limited or no voting rights compared to regular common shares.
  • Restructuring Flexibility – Tracking shares allows financial flexibility for carve-outs, spin-offs, mergers etc. without an actual separation.
  • Added Complexity – Managing tracking shares leads to additional accounting, legal and operating complexity for the parent company.
  • While tracking shares provides flexibility, companies must weigh the benefits versus the added overhead of managing them before creating separate share classes.

Dual Class Shares

When a company has two or more classes of common stock available with unequal voting rights, these are called dual-class shares.

For example – Class A are shares sold to public investors and hold limited or zero voting rights whereas Class B shares are held by internal company personnel and come with additional voting rights.

Features of dual-class shares:

  • Maintain Control – By concentrating voting power, insiders can maintain control over the company despite having a minority ownership stake.
  • Reward Long-Term Investors – Insiders argue that unequal voting rights allow them to focus on long-term goals and not short-term investor pressure.
  • Lack of Accountability – Critics contend that weakening public shareholder rights reduces management accountability and oversight.
  • Rare Dividends – Dual-class companies often do not pay dividends since insiders want to reinvest profits back into the company.
  • Big technology companies like Facebook, Google, and Snap have dual-class shares. While advocates argue they fuel innovation, more shareholder rights experts question their corporate governance implications.

Employee Stock Options (ESOs)

Employee stock options allow employees to purchase company shares at a set price – this is usually the price dictated by the market at the point of sale.

Key features:

  • Strike Price – This is the fixed price at which option holders can buy shares, regardless of future market price.
  • Vesting Period – Options become exercisable only after a vesting period, generally 1-4 years. This encourages employee retention.
  • Timeframe – Options have an expiration date, typically 10 years from grant, after which they cannot be exercised.
  • Motivate Performance – Having a stake in the company’s success motivates employees to perform better and boost the share price.
  • No Dividends/Voting – ESOs do not provide dividends or voting rights until the options are exercised and shares purchased.
  • Dilutive Impact – Issuing additional shares to employees leads to dilution in EPS and ownership for existing shareholders.
  • Accounting Rules – Companies incur an accounting expense for ESOs which impacts financial statements.
  • While ESOs are an important compensation tool, companies must develop plans carefully to optimise incentive value while minimising shareholder dilution.

Phantom Stock

Notional shares, cash settlement, and tax advantages come from phantom stock. This type of share provides employees with the financial equivalent of owning a share in the company without the shares being issued and without the rights associated with being a share owner.

Key aspects:

  • Notional Shares – Employees are assigned phantom or notional shares, but no actual shares are issued or transferred.
  • Cash Settlement – Phantom shares are eventually settled in cash, not stock. The cash amount depends on the current share value.
  • Mimics Stock Appreciation – Employees receive cash equivalent to the value gain they would have realised by owning and selling actual shares.
  • No Equity Dilution – Since no new shares are issued, phantom stock does not dilute existing shareholders.
  • Flexible Design – Plans can mimic restricted stock, RSUs, options etc. Vesting, performance hurdles and payout terms can be tailored as needed.
  • Tax Advantages – Deferred or lower tax rates may apply to cash-settled phantom plans compared to actual share compensation.
  • Phantom shares allow companies to provide stock-linked incentives while avoiding dilution by granting additional equity. Cash settlement also provides employees greater liquidity compared to owning relatively illiquid shares.

Do All Companies Have All Types Of Shares?

As you can see, there are lots of different types of shares available, but not every company has every type of share.

Public companies (those listed on the stock exchange) will have common shares that represent a basic ownership interest. Their primary purpose is to raise capital for the business.

Most companies will have preferred shares but will only have a treasury share if it has repurchased their stock. Not all companies issue restricted shares and tracking shares are very rare, with this type of share being used in large businesses only. Dual-class shares are common in tech companies but a fairly small percentage of public companies.

Most companies will have only one or two types of shares available such as common shares and preferred shares. Only larger, public companies tend to make use of the more complicated share class structures available.

Finally,

There is a large range of share options available to companies that want to issue shares. Common stock is the bread and butter of most public company financing goals but some of the other more complicated share options can be used for strategic gain in raising capital, attracting talent and regaining control of business operations.

Each organisation will need to weigh up the pros and cons of using shares, and the right mix of shares for them based on the risks and potential returns available. If in any doubt, a business advisor should be consulted to ensure the best outcome possible as well as compliance with the setup, sale, management and recording of shares.

 

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