The base class of equity in a corporation. Founders and employees typically hold common stock. Common shareholders are last in line during a liquidation event, after preferred stockholders and debt holders. Common stock usually carries one vote per share.
common stock
/ˈkɒmən stɒk/ noun — The foundational equity class in a corporation, representing ownership with voting rights but no special preferences over other share classes. Holders of common stock participate in company upside through appreciation and (in public companies) dividends, but stand last in the liquidation waterfall behind debt holders and preferred stockholders. The standard equity form for founders and employees.
Why it matters
Common stock is what founders receive at incorporation and what employees receive through stock option exercises. Because common stock sits below preferred stock in the liquidation waterfall, it is worth less per share than preferred stock on paper. This difference is actually beneficial for employees because it means their stock options have a lower strike price (based on the common stock's fair market value from a 409A valuation), making the options more affordable to exercise.
However, in a modest exit, common stockholders may receive little or nothing after preferred stockholders take their liquidation preferences. This is one of the most important and least-understood aspects of startup equity: owning 10% of a company that sells for $10 million does not necessarily mean you receive $1 million. If investors hold preferred stock with $8 million in liquidation preferences, common stockholders split $2 million regardless of their percentage.
Understanding this dynamic matters when evaluating startup equity packages. The paper value of your shares (number of shares times the last preferred price per share) is not the same as what you would actually receive in an exit. Common stock's real value depends heavily on the exit price relative to the total liquidation preferences on the cap table.
How it works
When a company incorporates, it authorizes and issues common stock to the founders at a nominal price, often fractions of a cent per share. As the company grows and raises capital, investors receive preferred stock with special rights, while common stock remains the base layer.
The fair market value of common stock is typically 25-35% of the preferred stock price, as determined by a 409A valuation. This discount reflects the fact that common stock lacks liquidation preferences, anti-dilution protection, and other rights that preferred stock carries.
In a large exit (like an IPO or major acquisition), the distinction between common and preferred often disappears because preferred stockholders convert to common when it is more profitable to do so. But in a smaller exit, the liquidation preferences on preferred stock get paid first, and common stockholders split whatever remains.
For example, if a company sells for $10 million and investors hold $8 million in liquidation preferences, common stockholders split just $2 million regardless of their ownership percentage. If the company sells for $50 million and investors hold $8 million in 1x non-participating liquidation preferences, preferred holders would likely convert to common and participate proportionally — because conversion yields more than taking the $8 million preference.
| Feature | Common stock | Preferred stock |
|---|---|---|
| Who holds it | Founders, employees | Investors (VCs, angels) |
| Liquidation priority | Last — after preferred | First — receives liquidation preference |
| Anti-dilution protection | None | Yes — weighted average (typically) |
| Voting rights | Yes — typically 1 vote/share | Yes — may have special class votes |
| 409A value vs. preferred | ~25-35% of preferred price | Set by investor round price |
History and origin
The distinction between common and preferred stock emerged from corporate law in the 19th century, initially in the railroad and industrial sectors. Early corporations issued different classes of stock to attract capital from investors with different risk tolerances: preferred stockholders accepted lower upside in exchange for priority claims on dividends and assets. Common stockholders retained the full upside potential but bore more risk.
The venture capital industry adopted this structure in the 1970s, with preferred stock becoming the standard vehicle for institutional investment. VCs insisted on preferred shares because the liquidation preferences and anti-dilution provisions gave them meaningful downside protection on investments where most companies were expected to fail. This structure was codified in the National Venture Capital Association's model term sheets in the 1990s.
The practical impact of the common-preferred distinction became widely understood in the dot-com bust of 2001, when many companies sold for prices that resulted in common stockholders (founders and employees) receiving nothing despite the companies appearing to have substantial value. This experience led to more sophisticated analysis of liquidation preferences and "waterfall" calculations, and to a greater focus on understanding the real economic value of common stock in any given scenario.
Frequently asked questions
What is common stock?
Common stock is the base class of equity in a corporation, representing an ownership interest with voting rights but no special preferences or protections. Founders and employees typically hold common stock. It sits below preferred stock in the liquidation waterfall, meaning preferred stockholders are paid first in an exit.
What is the difference between common stock and preferred stock?
Common stock is the standard equity class held by founders and employees. Preferred stock is what investors typically receive, and it comes with special rights: liquidation preferences, anti-dilution protection, and sometimes dividend rights. In exchange for these protections, preferred investors pay a higher price per share than the common stock's fair market value.
Why is common stock worth less than preferred stock?
Common stock is worth less than preferred stock because it lacks the liquidation preferences, anti-dilution protection, and other contractual rights that preferred stock carries. A 409A valuation typically values common stock at 25-35% of the preferred stock price to reflect this discount.
Do common stockholders have voting rights?
Yes, common stockholders typically have one vote per share on major corporate matters. However, preferred stockholders often also have voting rights, which means founders can lose voting control as more preferred shares are issued. Dual-class share structures — where certain common shares carry extra votes — are used by some founders to maintain control.
What is restricted common stock?
Restricted common stock is common stock subject to vesting and repurchase rights. This is what founders typically receive: they technically own all their shares immediately but the company has the right to repurchase unvested shares at the original purchase price if the founder leaves before vesting. An 83(b) election is essential when receiving restricted common stock.
What happens to common stock in a liquidation?
In a liquidation event, common stockholders are last in line. Debt holders are paid first, then preferred stockholders (who get their liquidation preference). If the exit price is high enough, preferred stock converts to common and all shareholders participate equally. In a modest exit, common stockholders may receive very little or nothing after preferred investors are paid.
How do employees end up with common stock?
Employees typically receive stock options (the right to buy common stock at a fixed price) rather than common stock directly. When an employee exercises their options, they pay the strike price and receive common shares. The strike price is set by the company's 409A valuation. Early-exercise programs allow employees to purchase common shares before vesting.
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