A Stockholder is a person, company or an institution who own one or more than one share of a company and on whose name share certificate has been issued by the company. They are the owners of the company but their liability is limited to the extent of their value of shares.
They are also known as shareholders. Fund generated from stockholders is reported in a balance sheet of organizations as paid-up capital under shareholder’s fund.
Types of Stockholders
There are two types of shareholders:
#1 – Equity Share
Equity stockholders are the actual owner and members of the company. They have a voting right in the meeting. They have control over the company operations. Equity shareholders will get payment of dividend after paying it to the preferred stockholder. Equity stockholder is the main investor of the company, and this is a real source of funds. These stocks are also known as ordinary shares.
#2 – Preference Share
These shareholders have a preference over equity stockholders. Preference shareholders generally receive a fixed dividend, and their dividend gets paid before equity stockholders. In case of bankruptcy, preferred stockholders are entitled to be paid from company assets before equity stockholders. Preference stockholders did not have any voting rights.
Stockholders Equity Formula
There are two methods for the calculation of stockholder’s equity.
- Stockholders Equity = Total Assets – Total Liabilities
- Stockholders Equity = Paid-Up Share Capital + Retained Earning + Accumulated other Comprehensive Income – Treasury Stock
Let’s take an example.
Below is the balance sheet of Max Inc as of 31.12.2018. In the below example, we will try to calculate stockholder’s equity by both the above two formulas.
In the below examples company has a bank balance of $ 300, an Inventory of $ 2500, and Debtors of $ 700. These come under the current assets of the company; therefore, the total current assets of the company are $ 3500. Under Non-Current Assets company has a land worth $ 500, Building worth $ 2500 and Plant & Machinery of $ 1200; therefore, total non-current Assets of the company are $ 9200.
- Total Assets = Current Assets + Non Current Assets
- Total Assets =$ 3500 + $ 9200 = $ 12,750
Now we will calculate the Total Liabilities of the Company.
The company has a creditor of $ 1100 and short term borrowings of $ 400. These come under current liabilities. Therefore, the total current liability of the company is $ 1500. The company has long term borrowings, i.e., non-current liabilities of $ 7000.
- Total Liability = Current Liability + Non – Current Liability
- Total Liability = $ 1500 + $ 7000 = $ 8,500
According to Stockholder’s equity 1st formula:
- Equity Stockholders = Total Assets – Total Liability
- Equity Stockholders= $ 12,750 – $8,500 = $ 4,250
Now we will calculate Stockholder’s equity as per 2nd Formula:
- Equity Stockholders = Paid-up capital + Retained Earnings + Other Comprehensive Income – Treasury Stock
- Equity Stockholders= $ 1000 + $ 2500+ $ 750 – $ 0 = $ 4,250
Some of the advantages are as follows:
- They are the real owner of the company.
- Equity stockholders have voting rights. They can vote on any board meeting of the company.
- It doesn’t create any obligation to pay a fixed rate of dividend.
- It is a permanent source of the company fund.
- They will get the dividend only in case of a profit of the company.
- Holders of equity shares have limited liability; their liability is limited to the extent of their investment.
- If the company performs regularly, then the value of shareholder investment will increase.
Some of the disadvantages are as follows:
- Investors who desire to invest in safe securities with a fixed income do not invest in equity stockholders.
- They have voting rights; they can create an obstacle for management to make the decision.
- In case of liquidation, equity stockholder gets their investment at the end after payment of creditors, debentures, preference shareholders.
- The cost of equity is high.
- The excessive use of equity shares is likely to result in the overcapitalization of the company.
- If the company will not perform, then there is a chance that shareholders will lose their investment.
Generally, they are the owners of the company, but still, shareholders are treated separately from the company, and their liability is limited to the extent of their shareholding. They have some rights like voting rights by which they can elect the board of directors of the company and play a very important role in any decision making of the company like acquisitions, merger, or any other important decisions. The main benefits of these shareholders are increasing their value of shares and dividend of the company when company business and profitability increasing regularly. Similarly, if the company is not doing good and not generating profit, then the value of shares will decrease, and shareholders will lose their money.
This has been a guide to what is a stockholder and its definition. Here we discuss the formula to calculate stockholder’s equity along with types and examples. You can learn more about valuation from the following articles –