Types of Shareholder: Definition, Explanation, and Types

Definition

A shareholder can be defined as a person, fund, company, or legal entity that owns shares in a company. Shareholders are not owners of a company. For shareholders to become an owner or a partial owner of a company, that shareholder must own significant shares of the company.

Shareholders are also called stock owners.  Shareholders are allowed to participate in meetings and also allowed to vote in the shareholders’ meetings.

The biggest reason for the holding of shares is to own a company. A company must maximize shareholder value. This will allow it to provide a greater return and also satisfy its shareholders.

Explanation

The shareholders are formed when a company issues shares. The sharing of issues allows for the company to meets its financial obligations or to finance its investment needs. This sharing of issues creates shareholders. Now, these shareholders can be individuals, investment funds, or any other legal entities.

This is what creates shareholders. The shareholders can then attend the shareholders’ meeting and if they own a significant percentage of the issued shares can even direct the board to change its decisions.

For example, when Toshiba issued new shares after it ran into financial trouble, many new shareholders who bought shares were activist investors.

They demanded the company to spin off its valued assets such as its memory chips business. As these new shareholders held a significant amount of shares, they were able to influence the decision-making at Toshiba.

Types of shareholders

The shareholders types are divided into two main types. This division is based on the type of stock that they hold. These two types of shareholders are given in figure 1 below:

Figure 1: The two main types of shareholders

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The two main types of shareholders given in figure 1 are the equity shareholders and the preference shareholders. These two main types are further divided into subtypes based on the types of shares the shareholders have been issued. A detailed analysis of both types of shareholders is given below:

Equity shareholders

Equity shareholders are also called shareholders who have equity shares. The equity shareholder holds common stock. This allows them to be paid dividends paid out by the company. It also allows them to attend and vote in the shareholders’ meetings.

If they hold a significant percentage of equity, they become partial owners and that allows them to take part in the decision-making process of the company. The equity shareholders are also called common shareholders. 

The equity shareholders are mostly common individuals. Their stock holdings in a particular company make up a small size of market capitalization on an individual level.

Advantages of becoming an equity shareholder

The main advantages of becoming an equity shareholder are as follows:

1) The company pays dividends to equity shareholders if the company pays dividends.

2) The common stockholder is allowed to participate in a shareholders’ meeting and allowed to vote on decisions taken by the board.

3) Sometimes, a company may offer special dividends or bonus shares or stock split which can be greatly beneficial to the common stockholder.

Main Disadvantages of becoming an equity shareholder

As there are many advantages of becoming a common stockholder, there are also significant disadvantages when we compare it to preference shareholders. These disadvantages are stated as follows:

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i) The dividend it receives is only paid after the preferred shareholders are paid dividends.

ii) In a bankruptcy proceeding, first of all, preferred shareholders are allowed to retrieve their capital from the company assets, and then the equity shareholders are allowed to recover their capital.

Preferred Shareholders

The preferred shareholders are those shareholders who hold the preferred shares. Although preferred shareholders are allowed first dibs on profits, they are not allowed to participate in the decision-making. They are paid a significantly higher percentage of profits than the equity shareholders.

An example of a preferred shareholder is the deal between Warren Buffet and General Electric during the global financial crisis of 2007-2008.

General Electric was facing cash flow problems during the Global financial crisis of 207-2008 and no one was willing to lend to G.E. So, G.E made a deal with Warren Buffet Berkshaw Hathaway.

In the return for this deal, G.E had to issue first of all dividends to the G.E stock held by Warren Buffet and the number of dividends for this stock was also very high.

The subtypes of preferred shareholders are based on types of preferred shares. The types of Preferred shares are redeemable, non-redeemable, convertible non-convertible, cumulative, non-cumulative, participating, and non-participating preference shares.

The types holding the preferred shares are divided based on the above division of preferred shares.

Main Advantages of becoming a preferred shareholder

There are multiple advantages of becoming a preferred shareholder. The biggest disadvantages are given below:

i) The preferred shareholders are paid dividends well above the dividends paid to the common shareholders.

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ii)  The preferred shareholders are allowed to recover their capital before the equity shareholders during bankruptcy proceedings.

This means that they have a better chance of recovering all their capitals when the company goes belly up. This opportunity is not available to equity shareholders who are most of the time left holding the bill.

Main disadvantages of becoming a preferred shareholder

There are many advantages a preferred shareholder has, but there are also some disadvantages faced by the preferred shareholder. It really depends upon you whether you want to take part in decision making or earn a higher profit.

i) Preferred shareholders are not able to participate in the decision-making process of the company as opposed to the common shareholders. They are not allowed to vote in shareholder meetings. This is the only big disadvantage a preferred shareholder faces.

Conclusion

Shareholders are mainly formed when a company issues shares. The practice of forming shareholders is not limited to public companies, the private companies would also have at least have one shareholder who owns 100% of the company.

The types of shareholders are also different and depend upon the company’s method of issuing stocks.

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