What is a Stock?

A share of stock is the smallest unit of ownership in a company.

If you own a share of a company’s stock, you are a part owner of the company. Therefore you have the right to vote on members of the board of directors and other important matters before the company. If the company distributes profits to shareholders, you will likely receive a proportionate share. Investors break the market down into sectors by company business. These sectors make is possible to compare how a stock is doing relative to its peers

One of the unique features of stock ownership is the notion of limited liability. If the company loses a lawsuit and must pay a huge judgment, the worse that can happen is your stock becomes worthless. The creditors can’t come after your personal assets. (This same feature does not necessarily apply to private-held companies.)

If the company is large enough, you could trade stock on a stock exchange. That’s what is happening when you buy or sell shares of a company through a stockbroker. You are telling the market you are interested in acquiring or selling shares of a certain company. Alternatively, shares of stock could be issued to raise millions, or even billions, of dollars for expansion. For example, when Sam Walton formed Wal-Mart Stores, Inc., the initial public offering that resulted from him selling newly created shares of stock in his company gave him enough cash to pay off most of his debt and fund Wal-Mart’s nationwide expansion.

There are two types of stock:

  • Common stock (most popular)
  • Preferred stock

Common Stock

Common stock represents the majority of stock held by the public. It has voting rights, along with the right to share in dividends. Common stock is highly liquid for the most part. Small and/or obscure companies may not trade frequently, but most of the larger companies trade daily creating an opportunity to buy or sell shares. Thanks to the stock markets, you can buy or sell shares of most publicly traded companies almost any day the markets are open.

Preferred Stock

Preferred stock has fewer rights than common stock, except in one important area – dividends. Companies that issue preferred stocks usually pay consistent dividends and preferred stock has first call on dividends over common stock.

An example of a company’s stock: McDonald’s

McDonald’s Corporation has divided itself into 1,079,186,614 shares of common stock. Over the past twelve months, the company earned net income of $4,176,452,196.18 so management took that profit and divided it by the shares outstanding, resulting in earnings per share of $3.87. Of that, the company’s Board of Directors voted to pay $2.20 out in the form of a cash dividend, leaving $1.67 per share for the company to devote to other causes such as expansion, debt reduction, share repurchases, or whatever else it decides is necessary to produce a good return for its owners, the stockholders.

The current stock price of McDonald’s is $61.66 per share. The stock market is nothing more than an auction. If someone wants to sell their shares of McDonald’s and there are no buyers at $61.66, the price would have to continually fall until someone else stepped in and placed a buy order with their broker. If investors thought McDonald’s was going to grow its profits faster than other companies, they would be willing to bid up the price of the stock (which is affected by supply and demand because there are only a fixed amount of shares in existence, in this case 1,079,186,614 shares). Likewise, if a large investor were to dump his or her shares on the market, the supply could temporarily overwhelm the demand and drive the stock price lower.