Understanding Stocks, Stakes, Fractions, and Everything in Between
In the world of investing, the words stocks and shares are often used interchangeably. For those who are already familiar with the terminology, it is okay, but many do not know the exact difference between the words. Fractions are somewhat the same, yet different. Let’s know more.
Investing differs from saving in one major way, that you consciously take a certain amount of risk while allocating resources (usually money) with an expectation of generating profit. While saving in banks also generates some amount of profit by means of the interest rate, that doesn't come even close to the profit that can be achieved when investing. Investing can be done in starting a business, contributing to an existing business, or in assets, like purchasing real estate in hopes of selling it later at a higher price. Between these two definitions, there are many more ways in which investments can work. Stocks, shares, and fractions form the bedrock of prudent investing.
In this article, we will look at ownership of existing businesses or participating in a real estate lease transaction. Normally, one can own a business or a piece of real estate by their own self. If one is the owner of the business, the primary focus is of course to make the business grow and flourish. In terms of real estate, as the sole owner, people might have different goals in mind. That can include wealth creation, long-term appreciation, or just plain old residential purpose. As an investor, however, profit is the primary focus when investing. Thus, the concepts of stocks, shares, and fractions come into play. Apart from helping an investor focus on profit-making, these methods also reduce the risk of overall investment via diversification.
In general parlance, the terms stock, share, stake are quite often used interchangeably, but they all mean different distinct things. A stake can also mean a fraction, but in terms of real estate investing, that has a different connotation altogether.
Stocks versus Shares
The most confusing terms are stocks versus shares for newer investors. While a stock conveys general ownership in a company, shares indicate the individual units of ownership.
Stocks are securities representing ownership in a company. Upon buying a company's stock, the investor is not lending any money to the company but is purchasing a percentage of ownership in that organization. By purchasing stocks of a company, stockholders get a claim on part of the company’s earnings and assets. Stocks can pay out timely dividends in quarterly, or annual fashion, which are a portion of the issuing company’s earnings.
A share is an individual unit of stock. Suppose if your friend says, “I own stock in Honeywell Automation,” what you can understand from this is that he/she is invested in Honeywell Automation and owns a small portion of the equity in the company. But a statement like “I own 100 shares of Honeywell Automation,” conveys the exact number of ownership units your friend has. Your friend can have a single share in Tata Communications while Rakesh Jhunjhunwala and Associates can have multiple shares in the same company. They both own stock, but the magnitude of the stock is different for each one, and so is the size of their investments in the company.
Stakes and Fractions
Often, the amount of stock owned by an investor is referred to as the stake of the investor in the company. It represents a percentage of the total stock of the company that the investor owns. It is a correct way to use the word, but it is not limited to stock ownership only.
Stake, in general, can mean a portion of ownership in a company. Let’s suppose you and a friend of yours decide to invest in a commercial office space together. That way, you both own a stake in the property based on the amount that each of you put into the investment. There is no formal structure of stocks in this, yet the term stake can be used correctly here.
In the same example, you both also own a fraction of the property and that kind of investment can easily be termed as fractional ownership as well. When the number of investors in a real estate property increase to a limit that cannot be handled by mere mutual agreements, investment companies step in to form an SPV (Special Purpose Vehicle). It is a legal entity that will own the property and in turn, investors own units of the SPV.
Making Sense of it All - Stockholders, Shareholders, Stakeholders, and Fractional Owners
In a general sense of understanding, as we have read through, stakeholders can be used to describe almost any individual or entity who has some form of financial interest in an investment. While stockholders and shareholders can be used interchangeably for investors who hold shares of stock in any company. In fractional ownership of any commercial or residential real estate, investors can also be called stakeholders or fractional owners.
To understand more about how fractional ownership works in commercial real estate (CRE) at Strata, please do visit our FAQ section on our website.