Common shares represent the ownership position in a company. The holder of common shares are the legal owners of the company and they are entitled to dividends from the company. Common shareholders therefore bear the risk of ownership.
We can define three different share capital terms:
(a) Authorised share capital represent the maximum amount of capital which a company can raise from shareholders. However, this maximum can be changed by a company altering its Memorandum of Association.
(b) Issued share capital is that portion of the authorised share capital that has been offered to the shareholders.
(c) Outstanding share capital is that portion of issued share capital that is still held by shareholders at any particular time. That is shares that have not been repurchased by the issuing company.
(Note: Share Repurchase is illegal in Kenya and therefore issued shares will always be equal to outstanding shares for companies in Kenya).
2.1 MAJOR FEATURES OF COMMON SHARES
(a) Claim on Income
Common shareholders have a residual ownership claim. They have claim to residual income after paying expenses, interest charges, taxes and preference dividend.
(b) Claim on Assets
Common shareholders have a residual claim on the company's assets in case of liquidation. Out of the realized value of assets, the claims of debt-holders and preference shareholders are satisfied first and the remaining balance, if any is paid to common shareholders.
(c) Right to Control
Common shareholders have the legal powers to control the operations and the decisions of the firm. They do this through representatives (directors) who manage the firm on behalf of the shareholders. The shareholders are therefore required to vote on a number of important matters such as election of directors or change of memorandum of association.
Shareholders may vote either in person or by proxy. A proxy gives a designated person right to vote on behalf of a shareholder at the company's annual general meeting.
Directors are elected at the annual general meeting by either a majority rule or a cumulative voting rule.
Under the majority voting system each share receives one vote and a decision is made if it receives over 50% votes. It is therefore possible, under this system, for a majority shareholder to make all decisions in the firm and therefore elect all directors.
Under cumulative voting system however, it is possible for those who hold less than 50% interest to elect some of the directors. Under this process a shareholder gets one vote for each share held multiplied by one vote for each director to be elected (or similar decisions to be made). The shareholder may then accumulate votes in favour of a specified number of directors.
The number of shares required to elect a given number of directors would be given by the following formula.
r = d (n) + 1
N + 1
r is the number of shares required
d is the number of directors the shareholders desire to elect
n is the total number of shares outstanding and entitled to vote
N is the total number of directors to be elected
The above formula is based on Game theory and it assumes that all the other shareholders are opposed to the candidate of the group (or the shareholder).
(d) Limited Liability
Common shareholders are the true owners of the company, but their liability is limited to the amount of their investment in shares. If the shareholder has already fully paid the issue price of the shares purchased, he has nothing more to contribute in the event of financial distress or liquidation.
(e) Preemptive rights
The preemptive rights entitle the shareholder to maintain his proportionate share of ownership in the company. The right, therefore, allows shareholders to purchase new shares in the same proportion as their current ownership. The shareholders' options to purchase a stated number of new shares at a specified price during a given period are called rights. (Rights issue will be discussed in the next section).