Why Do Most Companies Sell Shares of Stock?
Although selling stock dilutes a company's ownership, it raises money without subjecting owners to repayments or draining future cash flow.3 min read
Why do most companies sell shares of stock? Although selling stock dilutes a company's ownership, it raises money without subjecting owners to repayments or draining future cash flow. Selling stock and borrowing money have pros and cons, so whether you decide to sell company stock depends on your business goals.
What Are Stocks?
The stock market is an intimidating subject for many. You either hear stories of investors striking it rich or losing it all, which can skew an average investor's perceptions. Fortunately, the stock market isn't as scary as you might think, and, in many cases, it proves to be a viable investment for business owners.
Buying a stock means buying a piece of a company, so if you need to raise funds for your corporation, you issue stock shares and allow investors to purchase them. This process occurs through an initial public offering where the share price is set depending on the company's worth and how many shares it plans to issue.
Once a company sells stocks, it keeps the money raised to operate and grow the business while the stocks are traded on the New York Stock Exchange (NYSE). The NYSE is where investors and traders can buy and sell shares of stock, but the company no longer receives proceeds from sales beyond the initial public offering.
Why Should Someone Buy Stock?
Since the perceived value of a company changes over time, investors will continue to buy and sell stock after the initial public offering. They will either lose or make money depending on how the market fluctuates. This fluctuation occurs based on how many traders and investors buy or sell stocks, which can push the price of a said stock up or down.
It's very difficult to predict which way the stock market will go, but since stocks tend to rise overall, many investors purchase a variety of stocks so that they can hold onto them long-term. This method is called “diversification,” and those who use it are generally not concerned with day-to-day fluctuates in stock prices.
Ultimately, you want to purchase stocks from companies you expect to succeed and rise in value. Purchasing shares in a company also gives you voting rights in how that company is run. Depending on the class of shares, you might obtain voting rights equal to however many shares you've purchased. As a shareholder, you can participate in voting in a board of directors or on making major company decisions.
Why Do Companies Sell Their Stock?
Companies opt to sell stock for a number of reasons. The main reason is financial leverage.
Banks and other traditional lenders typically won't provide loans to new companies, which is why startups need to seek out angel investors and venture capitalists. After exhausting all finances from those initial investors, it's a good idea to approach investment bankers regarding selling shares of stock to the public. Companies can then use this financial leverage to further their business goals.
Corporations may also sell stock for speculative reasons. When stocks are sold below the company's valuation, the company can purchase its own shares for a more affordable price and sell them at a higher rate, gaining a short-term profit.
In some cases, primary shareholders in the corporation may want to sell their shares during distress.
Other situations that may call for a company selling stock include:
- Generating cash from private placement, which allows management to choose who the stockholders are
- Attracting investors who can bring their own expertise to the company
- Owners, venture capitalists, and initial investors want to recoup their financial contributions to the company
- The owners may see prestige that comes with publicly traded companies
- To raise money for an expansion
- To attract traditional lenders who are more likely to extend credit to publicly traded companies
- To purchase other firms through stock shares instead of money
Does a Company's Stock Price Matter?
Publicly traded companies use stock prices as a barometer of health. When the stock price is up, the company is in a strong economic position. When the prices decline, there might be an issue with the company's reputation or consumer trust. In general, the higher a company's stock price, the more optimistic the company's prospects.
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