8.2.1 Benefits And Risks Of Common Share Ownership

Benefits and Risks of Common Share Ownership

The right to buy or sell common shares in the open market at any time is an attractive feature; either process is a relatively simple matter with few legal formalities.

When a company first sells its shares to investors, the proceeds from the sale go to the company. However, when these outstanding shares are subsequently sold by their holders, the selling price is paid to the seller of the shares, not to the company. As a result, shares may be transferred from one owner to another without affecting the company’s operations or finances. From the company’s point of view, the effect of a sale is merely a new name appearing on its list of shareholders.

Benefits of Common Share Ownership

Common share ownership offers a variety of benefits, including, but not limited to:

• Potential for Capital Appreciation: The primary goal for many investors is to benefit from the increase in the share price over time.
• Common Share Dividends: Shareholders have the right to receive any dividends paid by the company.
• Voting Privileges: These include the right to elect directors, approve financial statements and auditor’s reports, and vote on pertinent issues.
• Favorable Tax Treatment: In Canada, both dividend income and capital gains may receive advantageous tax treatment.
• Marketability: The shareholdings of most public companies can often be easily increased, decreased, or sold, ensuring liquidity.
• Access to Information: Shareholders have the right to receive copies of the company’s annual and quarterly reports and other mandatory disclosures.
• Examination of Company Documents: Shareholders are entitled to review certain company documents, such as by-laws and the register of shareholders, at specified times.
• Questioning Management: The right to question management during shareholders’ meetings.
• Limited Liability: Shareholders’ personal assets are protected; they can only lose what they invested in the shares.

Risks of Common Share Ownership

While common shares offer the potential for significant rewards, they also come with inherent risks:

• No Obligation to Pay Dividends: The issuer is not legally obligated to pay dividends, relying solely on profits and intended company policies.
• Limited Control: Common shareholders usually have minimal influence over day-to-day operations of the company.
• Market Volatility: Common share prices can be highly volatile, with significant fluctuations leading to potential losses.
• Subordinate Claims: In case of bankruptcy or dissolution, common shareholders have the lowest priority over assets, behind creditors, bondholders, and preferred shareholders.

Key Takeaways

• Flexibility: The ability to buy and sell shares in the open market gives investors significant flexibility.
• Capital Gains and Dividends: You can earn through capital gains if the stock price rises and through dividends if the company distributes profits.
• Voting Rights: As a shareholder, you hold the right to vote on essential corporate matters.
• Limited Liability: You are not personally liable for the company’s debts, beyond your investment in shares.
• Volatility and Risks: Be aware that there is high risk due to market volatility and the lack of obligation on the issuer to pay dividends.

Glossary

• Capital Appreciation: Increase in the value of an asset or investment over time.
• Dividends: Earnings distributed to shareholders from company profits.
• Voting Privileges: Rights granted to shareholders to vote on company matters.
• Marketability: The ease with which an asset can be bought or sold in the market without affecting its price.
• Limited Liability: A legal status where a shareholder’s financial responsibility is limited to the value of their investment.
• Volatility: The degree of variation of a trading price series over time, indicating risk.
• Subordinate Claims: In bankruptcy, these are claims that are ranked lower in priority compared to other claims.

FAQ

Q: What are some key benefits of owning common shares?

A: Some key benefits include the potential for capital appreciation, dividend income, voting rights, favorable tax treatments, and limited liability.

Q: What are the risks involved in common share ownership?

A: Risks include no obligation on the part of the issuer to pay dividends, market volatility, limited shareholder control, and subordinate claims in case of bankruptcy.

Q: Do common shareholders have any influence over company management?

A: Generally, common shareholders have minimal influence over daily operations but can vote on critical issues and elect the board of directors.

Q: How does common share ownership benefit from favorable tax treatment in Canada?

A: In Canada, both dividends received and capital gains from the sale of common shares are subject to favorable tax treatments, potentially reducing the overall tax liability for shareholders.