Claimant

A Claimant is any individual, group, or entity that has a legal right to a company's assets or cash flows. Think of a company as a pie. Before you, the owner, can take your slice, a whole line of other people gets to eat first. These people are the claimants. This group is broadly divided into two main categories: creditors (the lenders) and shareholders (the owners). Creditors have a claim on the company's assets because they've lent it money, and they expect to be paid back with interest, come rain or shine. Shareholders, on the other hand, have a claim on the profits left over after everyone else has been paid. Understanding who these claimants are and, more importantly, the order in which they get paid—the “pecking order”—is absolutely fundamental to investing. It's the difference between knowing you're first in line for dinner and hoping there are some scraps left by the time it's your turn.

Imagine a ship is sinking. The captain doesn't just yell, “Every person for themselves!” There's a protocol: women and children first. In corporate finance, when a company faces financial trouble or even bankruptcy, a similar, legally-enforced protocol dictates who gets paid from the company's remaining assets. This hierarchy is crucial because where you stand in this line determines your risk. Standing at the front gives you a much better chance of getting your money back, while standing at the back means you might get nothing at all.

Creditors are the company's lenders. They don't own the business, but the business owes them money. They are always paid before shareholders.

• Secured Creditors: These are the VIPs at the front of the line. They hold a loan secured by a specific asset, known as collateral. For example, a bank that provides a mortgage for a company's headquarters is a secured creditor. If the company fails, that bank has the first right to seize and sell the headquarters to get its money back.
• Unsecured Creditors: These claimants are next. They've lent the company money but don't have a claim on a specific asset. This group includes bondholders who own the company's debentures, suppliers who are owed money for goods and services (trade creditors), and even the government for unpaid taxes. They get paid from any assets left after the secured creditors have taken their share.

Shareholders are the owners of the company. They accept the highest risk for the chance of the highest reward.

• Preferred Shareholders: These are a hybrid case. They stand in line after all creditors but before the common shareholders. They are typically promised a fixed dividend payment, much like a bond's interest payment. If the company is liquidated, they must be paid their due before common shareholders see a dime.
• Common Shareholders: Welcome to the very back of the line! As a common shareholder, you are the residual claimant. This is a hugely important concept. It means you are entitled to everything that is left over after every single other claimant—from the big banks to the office supply company—has been paid in full.

Understanding the claimant hierarchy isn't just an academic exercise; it's a core part of the value investor's toolkit for analyzing risk and opportunity.

1. Assessing Risk: A company's capital structure—its mix of debt and equity—tells you how many people are in line ahead of you. A company with mountains of debt is riskier for a common shareholder because the “residual” you have a claim on might be tiny or non-existent, especially during tough times. The interest payments to creditors must be made, while dividends to you can be cut.
2. Spotting Opportunities in Distress: Knowledge of the pecking order is critical when analyzing companies in trouble. Sometimes, the bonds of a struggling company (distressed debt) can be bought for pennies on the dollar. A savvy investor who correctly predicts the company will survive and pay its debts can make a handsome profit.
3. The Power of Residual Claims: While being last in line sounds bad, it's also where the magic of wealth creation happens. Because common shareholders have a claim on all future profits after debts are serviced, their potential upside is theoretically unlimited. A successful, growing company will generate ever-increasing profits for its owners. As Warren Buffett has demonstrated for decades, owning a piece of a wonderful business and having a claim on its growing residual earnings is one of the most powerful paths to long-term wealth. You take the biggest risk, but you also get the biggest potential reward.