What are Authorized Shares?
Authorized shares, or authorized stock, are simply a legally allowed maximum number of shares that a company can issue to investors. The number of authorized shares is specified in the company’s articles of incorporation. You can also see the number in the capital accounts section on the balance sheet.
Understanding Authorized Shares
When companies are first formed, they file documents to become registered in the government system, i.e., through the articles of incorporation. The company must describe its stock structure, specifically, what kinds of shares it plans to issue to the owners and the total number of shares that can be made available to investors. The number of shares represents the authorized shares.
The number of authorized shares can be increased by the shareholders of the company at annual shareholder meetings, provided a majority of the current shareholders vote for the change.
Importantly, the number of authorized shares can be significantly higher than the number of shares previously issued and trading on the secondary market. This gives the company the flexibility to potentially sell more shares at some point in the future.
The issued or outstanding number of shares can be either equal to or less than the number of authorized shares.
How Many Shares to Authorize?
There is no requirement regarding how many shares can be authorized. Enterprises use authorized shares when they go public by offering a company’s equity, for instance, through an initial public offering (IPO).
Thus, it is crucial to make enough shares available to fulfill the objectives of stock offerings and employee compensation by providing them with financial instruments that can be exercised at a particular date and a predetermined price, such as stock warrants or options.
Authorized capital shares include all types of shares that can be issued, such as:
- Common shares
- Preferred shares
- Restricted shares
What are Common Shares?
Common shares are one of the types of securities that represent equity ownership in a corporation. Other terms, such as common stock, ordinary share, or voting share, all refer to common shares.
Holders of common shares have the right to claim a certain portion of a company’s earnings. The portion depends on the percentage of equity stake a shareholder holds in the company.
Common shares also give voting rights to a shareholder. In other words, an investor with a stake in a company, holding common shares, can participate in the elections of the board of directors during annual shareholder meetings and may have the right to vote on other company decisions.
What are Preferred Shares?
Preferred shares (also known as preferred stock or preference shares) are a type of security that is similar to common shares. The main difference is that preferred shares have a priority claim over the common shares on a company’s assets and earnings.
Preferred shares are senior to common shares because the holders of preferred shares are prioritized over the common shareholders in dividend payments.
It is important to remember that preferred shareholders do not have voting rights.
The main features of preferred shares are as follows:
- Preference in assets during liquidation (priority over common shareholders to claim assets if the company defaults)
- Preference in dividends (preferred shareholders are paid first, ahead of common shareholders but after any debt holders)
- No voting rights
- Convertible to common shares (can be converted to a predetermined number of common shares)
- Callable (can be repurchased by the issuer at certain dates in the future)
What are Restricted Shares?
Restricted shares are shares granted to mainly corporate officers, directors, and other senior executives. The shares are non-transferrable until certain conditions are met.
Examples of such conditions include the continued employment of a company’s director for a defined period, the company achieving a certain earnings per share (EPS) figure, or any other financial goal for the company. Upon meeting the restriction requirements, the issuing company transfers the shares to the grantees.
Restricted shares serve as a great motivational tool for employees because, after receiving the shares, they automatically become owners of the company and, thus, receive voting rights. They will then feel more responsible for the company and its overall performance. It produces more motivation for them to work hard and achieve further corporate goals because it will proportionally make an impact on their worth as shareholders.
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