Why Do Corporations Issue Stock? Everything You Need to Know
Why do corporations issue stock is a common question business owners ask when determining which business entity to choose from.3 min read
2. Why Do Companies Issue Stock?
Why do corporations issue stock is a common question business owners ask when determining which business entity to choose from. A share of stock translates to a percentage of ownership of the company, as well as a form of claim to a portion of the company's assets and earnings. The more stock you own, the greater your ownership stake in that company. Though technically stockholders to do not own companies, they own shares of the company's stock.
A corporation is has the same rights and responsibilities as an individual would have. Corporations must:
- File taxes
- Borrow money
- Own property
- Be sued
Shareholders have certain entitlements when they own shares in a company. Shareholders will:
- Receive voting rights at shareholder meetings based on their number of shares
- Receive dividends when the company's profits are distributed
- Have the ability to sell their shares to another party
Shareholders that own the majority of the shares in a corporation will enjoy increased voting power which can, in effect, give them some control of the company. Majority shareholders would have the votes to control the appointment of the company's board of directors. When a shareholder wants to buy a company, they do this by buying the majority of the company's stock. Appointment of the board of directors helps control the direction of the company as they are responsible for many of the major decisions that occur in a company.
In addition to voting rights, the more stock that you own in a company, the larger the number of shares you own the larger the portion of the company's profits you are entitled to when it comes time to distribute. This is the foundation for selling stock.
It is important to note that many stocks may not pay out dividends as some companies will reinvest the profits back into a company to continue growing it. These retained earnings will still be reflected in the value of the stock.
In startup, companies stock, also referred to as equity, is issued to help raise capital so the company can grow in exchange for a portion of some of the profits. Shares of stock can also be issued by a company once established to continue growth or be able to begin new projects. Depending on when you purchase, your stock will classify which type of shareholder you are. There are:
- Primary shareholders who purchase stock when the company issues it
- Secondary shareholders who buy the stock in a corporation on a secondary market.
Why Do Companies Issue Stock?
Corporations issue stock to raise money for growth and expansion. To raise money, corporations will issue stock by selling off a percentage of profits in a company. Issuing stock can also be referred to as equity financing, because the shareholder gives the company money in exchange for a portion of voting rights and profits of the company.
Becoming a shareholder in a company also comes with the risk that the company may not increase in value and you might lose the amount of money that you invested in the stock. If a company completely fails you do have the ability to claim your portions of the assets of the company after all debt has been satisfied. The banks and bondholders will have the first claim on the assets which is referred to as absolute priority.
There are two ways for you to obtain shares of stock in a corporation. You can purchase stock when the stock is first offered through the company's IPO or Initial Public Offering. This would be considered a primary market, which is when the business offers shares of stock when they are looking to start or grow a ;business. You can also purchase stock in a secondary market through stock exchanges where the stock is bought and sold.
There are many reasons that a company would issue stock to raise money. Some of the common reasons include:
- The development of new products
- To purchase equipment
- To buy new buildings
- To increase inventory
- To expand and grow staff
- To reduce debt
- To prepare for a merger or acquisition
- To improve the value of a company
- To provide for greater flexibility
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