Shareholders vs. Bondholders

There are two primary ways that you can invest in a company. You can purchase shares of the company's stock or you can purchase the company's bonds. If you own shares of the company's stock you are a shareholder in the company. If you own bonds issued by the company you are a bondholder. It is possible to make money or to lose money with both types of transactions.

Shares of stock represent ownership in a corporation. Each share of stock has the same value and represents the same percentage of ownership. As a shareholder, you have an ownership position in the corporation and are entitled to participate in the profits as well as the losses produced by the corporation. Each share of stock typically gives you one vote at the corporation's annual shareholders' meeting.

There are two primary ways of making money as a shareholder. You can purchase shares of stock at one price and sell them at a higher price if the value of the stock increases. The difference between the price you paid for your shares and the amount you received from the sale of your shares represents a capital gain, which may be long term or short term, depending on how long you held your shares before you sold them. If the corporation earned a profit, the board of directors may elect to declare a dividend. A dividend represents each shareholder's portion of the company's earnings. Each share of stock is entitled to the same dividend. Dividends are typically taxed as ordinary income in the year they are received.

A bond represents a loan to the company. Corporate bonds are typically issued with a face value of $1,000 and a fixed or variable interest rate. You are loaning the company money in exchange for the company's promise to pay you regular interest payments, typically on a bi-annual basis, and to redeem the bond at its face value upon maturity.

The primary way you make money as a bondholder is through receiving regular interest payments. You may also make money on bonds through capital appreciation. Bonds are subject to price fluctuations based on prevailing interest rates and perceived improvements or declines in the company's credit rating. Bond prices typically rise or fall in the opposite direction of rises or falls in prevailing interest rates. If prevailing interest rates decline, the price of the bond will typically rise. If you sell the bond in the open market for a higher price than you paid for it, or if you bought the bond at a discount and the issuing company redeemed the bond for its full face value, you will have a capital gain that may be long term or short term, depending on how long you held the bond.