Despite possible dilution of shares, increases in capital stock can ultimately be beneficial for investors. The increase in capital for the company raised by selling additional shares of stock can finance additional company growth.
When companies issue additional shares, it increases the number of common stock being traded in the stock market. For existing investors, too many shares being issued can lead to share dilution. Share dilution occurs because the additional shares reduce the value of the existing shares for investors.
The number of shares represents the authorized shares. The number of authorized shares can be increased by the shareholders of the company at annual shareholder meetings, provided a majority of the current shareholders vote for the change.
The capital raised from the new share issuance increases the total market capitalization of the stock, but the value of the stock per share remains unchanged. As new shareholders have paid a fair value for the stock, there is no value redistribution to existing shareholders.
This is to allow the company to issue stocks in the future when needed (as employee perks or perhaps as a secondary offering to raise more money). A company may refrain from issuing all of its authorized shares to maintain a controlling interest in the company and therefore prevent a hostile takeover.
How many shares do startup founders need to issue? The commonly accepted standard for new companies is 10 million shares. When you build a venture-backed startup designed to scale, you will need to issue shares to an increasing number of employees.
In the stock market, when the number of shares available for trading increases as a result of management’s decision to issue new shares, the stock price will usually fall.
The decision to issue additional shares of stock is an example of: working capital management.
Dilution usually corresponds with a decrease in stock price. The greater the dilution, the more potential there is for the stock price to drop. Dilution can keep stock prices lower even if a company’s market capitalization (the total value of its outstanding shares) increases.
To go public, a company consults a merchant banker, decides on the number and price of shares that will be issued, hires underwriters, and finally decides to list its shares on stock exchanges. IPO, a cost-efficient way to raise capital, helps the company in fulfilling its capital requirements in a convenient fashion.
Shares go up in price, and also down.
If you buy shares at a high price and the market falls, you may lose money. But if you buy more shares and the price goes up, you’ll make money on the sharemarket.
The number of authorized shares per company is assessed at the company’s creation and can only be increased or decreased through a vote by the shareholders. If at the time of incorporation the documents state that 100 shares are authorized, then only 100 shares can be issued.