Definition
Common shares (or ordinary shares) represent ownership in a company. Shareholders are partial owners and have voting rights, a residual claim on assets and earnings, and may receive dividends.
Mechanism
- Issued during IPOs, secondary offerings, or employee compensation plans.
- Traded on stock exchanges.
- Returns come from capital appreciation and/or dividends.
Example
You buy 1,000 shares of Company A at $10 each. The company declares a dividend of $0.50 per share, so you receive $500. If the share price rises to $15 and you sell, you make a capital gain of $5,000.
Definition
Preferred shares are hybrid securities with characteristics of both equity and debt. They do not usually carry voting rights but offer fixed dividend payments and have priority over common shares in payments.
Types of Preferred Shares
- Cumulative vs. Non-Cumulative: Cumulative shares accrue any missed dividends, which must be paid before common shareholders receive any. For non-cumulative shares, missed dividends are lost.
- Convertible Preferred: Holders can convert their preferred shares into a pre-set number of common shares to participate in equity upside.
- Redeemable (Callable) Preferred: The issuer can buy back the shares at a fixed price after a certain date.
- Participating Preferred: Receives a fixed dividend plus a potential bonus if common shareholders receive a dividend above a certain threshold.
Definition
Companies issue multiple classes of shares with different voting rights (e.g., Class A with 1 vote per share, Class B with 10 votes per share) and sometimes different dividend policies.
Mechanism
This structure is common in tech companies (e.g., Google, Meta) and allows founders to maintain strategic control of the company without holding a majority of the economic ownership.
Example
A founder owns 20% of the total shares but holds all the Class B (10x voting power) shares. As a result, the founder controls a majority of the votes, retaining control over board elections and major corporate decisions.
Definition
Shares granted to employees/executives as part of compensation, with vesting conditions (e.g., time or performance-based).
- Restricted Stock: Actual shares are issued but are not transferable until they vest.
- RSUs: A promise from the company to deliver shares in the future, once vesting is complete.
Mechanism
This form of compensation aligns employee incentives with the long-term performance of the company. The shares are often forfeited if the employee leaves before the vesting period is over.
Example
An employee is granted 1,000 RSUs vesting over 4 years (25% per year). After the first year, 250 shares are delivered. If the stock price is $50 at that time, the value of the vested shares is $12,500.
Definition
Depositary Receipts (DRs) are certificates representing shares of a foreign company that are traded on a domestic exchange.
- ADRs (American Depositary Receipts): Foreign shares traded on U.S. exchanges in USD.
- GDRs (Global Depositary Receipts): Traded outside the issuer’s home country, often in Europe.
Mechanics
A domestic bank (e.g., a U.S. bank) buys shares of a foreign company, holds them in custody, and issues DRs that represent those shares. Each DR may represent one or more shares.
Example
Infosys (an Indian company) issues ADRs in the U.S. where 1 ADR represents 2 Infosys shares. The ADR trades on the NYSE in USD, allowing U.S. investors to gain exposure without trading directly on Indian exchanges.
Definition
Long-term options issued by a company, giving the holder the right to buy shares at a fixed price (exercise price) before expiry. They are usually issued with bonds or preferred shares as a “sweetener.”
Mechanics
- Exercise of a warrant leads to the issuance of new shares, which is dilutive to existing shareholders.
- They have a longer expiry than standard options (often 5+ years).
- They are often detachable and can be traded separately from the security they were issued with.
Example
A company issues a warrant giving the right to buy 1 share at $50 for the next 5 years. If the stock price rises to $70, the holder can exercise the warrant, buy a share for $50, and have an immediate paper gain of $20. If the stock stays below $50, the warrant expires worthless.
Definition
Structured products that combine debt and equity derivative exposure. They offer fixed or variable returns linked to a stock or index’s performance.
Mechanics
Investors lend money to the issuer and receive a coupon. At maturity, they receive either their cash back or a predetermined number of shares, depending on the performance of the linked stock.
Example - Reverse Convertible
An investor lends $1,000 and receives a high 10% coupon. At maturity, if the linked stock is above a price of $50, they receive their $1,000 back. If the stock is below $50, they receive shares that are worth less than their initial $1,000 investment. The high yield compensates for this downside risk.
Definition
Standardized, exchange-traded contracts that give the right, but not the obligation, to buy (a call option) or sell (a put option) shares at a predetermined price on or before the expiry date.
Mechanics
Options are used for hedging existing positions, for speculation on price movements, or for generating income.
Example
An investor buys a call option with a strike price of $100 for a $5 premium. If the stock rises to $120, they can exercise the option, buy the stock at $100, and realize a profit of $15 ($20 gain - $5 premium). If the stock stays below $100, the option expires worthless and the loss is the $5 premium paid.
Summary Table (Quick Reference)
| Instrument | Key Feature | Rights | Dividend Priority | Example Use |
|---|---|---|---|---|
| Common Shares | Basic ownership | Voting | Lowest | Growth participation |
| Preferred Shares | Fixed dividend, priority | Usually no | Higher than common | Income focus |
| Dual-Class Shares | Different voting rights | Varies | Same | Founder control |
| RSUs / Restricted Stock | Employee compensation | Voting after vesting | Yes (after vesting) | Talent retention |
| ADRs / GDRs | Foreign equity exposure | Same as underlying | Same | Access foreign stocks |
| Warrants | Long-term right to buy shares | None | None | Leverage / sweetener |
| Equity-Linked Notes | Structured payoff | None | Fixed/variable | Yield enhancement |
| Options | Derivative right to buy/sell | None | None | Hedging/speculation |
Interview Tip
Be ready to explain how each instrument differs from standard equity (especially warrants, preferred shares, and DRs). Interviewers love asking about the mechanics of ADRs, differences between options and warrants, or when companies issue dual-class shares. A common scenario: "A company issues convertible preferred stock — explain how that affects voting, EPS, and capital structure."