Imagine building your bakery. It started small, with just the rolling pin, you and a fantastic recipe for sourdough. It’s a thriving business. The customers are crowding around the block. The dream is of opening a fifth location, employing staff, purchasing industrial ovens, or creating an ice-cream line at supermarkets. There’s just one issue: you need a large amount of capital.
What can you do? Bank? Yes, it’s an option. Do you ask your friends or family members? Possibly. However, if your business is promising, you have a greater opportunity to offer shares to take it to market.
It’s the tale of many successful businesses, including Amazon and Airbnb and in this blog, we’ll explore precisely why businesses issue stock and how they work, and the implications both for investors and business owners alike.
What Does It Mean to Issue Stocks?
Before getting deep into “why,” let’s clear up the “what.”
If a business issue states that it is selling its shares. Stock signifies ownership of a business. When people buy shares, they are buying shares in the future value of the company. There are two kinds of shares:
- Common stock that is often accompanied by voting rights
- Stocks with a preferred option generally don’t contain voting rights, however, they could pay regular dividends
Suppose they issue shares, particularly when they conduct an Initial Public Offering (IPO). In that case, they’re transitioning from a privately held company (owned by a select number of investors) to a publicly traded company (available to the public market).
Why Would a Company Want to Issue Stocks?
1. To Raise Capital for Growth and Expansion
It can be the principal reason that corporations issue shares.
Let’s review our analogy with a bakery. It’s your goal to expand shops, but you’ll need millions in order to grow — to open new locations, personnel, staff, marketing as well as logistics. Instead of taking out loans and then paying interest by issuing shares, you can get large amounts of cash without committing debt.
This capital flow is vital to:
- The launch of new products
- Innovating new markets
- Talent for hiring
- Making investments in R&D or the development of technology
- Strategic acquisitions
An actual example: The moment Tesla went public in 2010, the company generated over $ 200 million. The money was used to fund the development of Model S and build its Gig factories. As a result? Tesla has become one of the world’s largest automotive manufacturers.
2. To Reduce or Avoid Taking on Debt
In the event of borrowing, companies can be burdened with interest and repayment obligations, which is a risky proposition, especially when markets are uncertain.
The issue of stocks, however, isn’t a requirement for payment. It’s cash capital, which means that investors are considered partial owners rather than lenders.
Although it can dilute ownership (more about that in the future) it also gives companies the chance to expand and not be entangled in loans.
External source: The U.S. Securities and Exchange Commission (SEC) offers guidelines for equity financing as well as stock issuance.
3. To Enhance Credibility and Visibility
The process of going public and releasing shares can be like receiving an official stamp of approval.
It communicates to customers, investors, and business partners: We’re in business for the long haul. We’re transparent. We’re also worth your time.
The status of this elevated position can benefit firms:
- Attract high-quality talent (via the stock option)
- Enhance trust in the consumer
- Secure better business deals
- Increase your brand’s visibility
Examples: When Facebook (now Meta) went public in 2012, it was not because the company needed cash; it had more than $3 billion in annual revenue. Its IPO is also about establishing its status as a technology company and offering investors who were early in the game a chance to cash in.
4. To Allow Founders and Early Investors to Exit
In the case of a stock issue, particularly an IPO, it serves as a means to create liquidity and the capability to convert paper wealth into cash.
Founders, employees who have stock options and venture capitalists are often shareholders in a company. An IPO allows them to sell shares and earn a return on the equity they have invested.
This is one of the vital reasons why startups are seeking an initial public offering: it provides an exit plan for early shareholders.
5. To Use Stock as a Currency
Public companies can utilize their shares as a form of capital for the acquisition of additional companies, pay employees, or attract top executives.
- Acquisitions Companies A and B can purchase shares of Company B in lieu of cash.
- Compensation : Tech companies often provide stock options, also known as RSUs (Restricted Stock Units), as part of their employee compensation plans.
- Rewards Equity entices employees to be concerned about their long-term health of the business.
An example: Google (Alphabet) has completed numerous acquisitions. Many of them were funded, partially, using stocks. The swiveling “currency” can be a highly effective strategic tool.
Read Also: Can a Non-U.S. Citizen Invest in the Stock Market?
The Flip Side: What Are the Downsides of Issuing Stock?
Although the issue of stock can have benefits, it’s not all rainbows and sunshine.
1. Dilution of Ownership
When new shares are created, the existing shareholders hold a smaller share of the firm. This could result in disputes between shareholders and founders, particularly if the control of voting rights or even ownership is in question.
2. Loss of Control
The public offering means that investors outside the company now have a say in how the business operates, particularly those who hold shares with voting rights. Large shareholders may influence the actions or guide the business to a different direction.
3. Increased Regulation and Disclosure Requirements
Public corporations are heavily monitored. They have to:
- Report quarterly on earnings
- Disclose executive compensation
- Be sure to adhere to the strictest governance and auditing requirements
The process can be both expensive and lengthy. Some founders consider the disclosure to be intrusive.
4. Market Pressure
Companies that are publicly traded face continuous examination. If a company’s quarterly targets are not met, even by a cent or less, it can send the stock’s price down, regardless of the firm’s long-term strategies.
The pressure on leaders can cause them to prioritize short-term performance over long-term planning.
Related information: Investor.gov offers a useful review of the different types of stocks and their impact on businesses and investors.
A Tale of Two Businesses: Private and Public. Public
We’ll examine two popular technology models to illustrate stock issuance in action.
Shopify (Public)
Shopify was first listed in 2015 after raising more than $130 million. This cash injection allowed them to invest significantly in their online platform, making them the go-to platform for online stores worldwide.
The public stock of their company also allowed employees to participate in stock options, which helped finance partnerships and enhance the company’s worldwide visibility.
Stripe (Private)
Stripe the world’s leading payment processor, has been adamant about going public even though its valuation is over $50 billion. The company is adamant about the freedom of private ownership and avoids public pressures and disclosure obligations.
In the end, when tensions between investors and employees look for liquidity, perhaps Stripe could be forced to issue stock that is publicly traded.
How Does a Company Issue Stocks?
Let’s briefly break down the procedure.
Step 1: Hire Investment Banks
The “underwriters” help set the cost, create financial documentation as well as pitch the company to large investors.
Step 2. File with the SEC
Businesses must file a form called a registration statement (Form S-1) disclosing financials, potential risks, and business plans.
Step 3: Go on a Roadshow
The company’s leaders visit institutions of investors to generate interest and assess demand.
Step 4: Set the Price and Go Public
Once everything is in order and all is in place, the stock begins trading on exchanges like those on the NYSE and NASDAQ.
Why Should You Care?
If you’re not the owner of the company, gaining an understanding of the reasons businesses issue shares can transform you into a better shareholder, employee or consumer.
- It can help you understand the reasons why companies could become public and the impact on the company’s future.
- It offers insight into changes in the stock market, earnings reports, and news headlines.
- For entrepreneurs or aspiring business owners, this article will show you how equity financing can be the catalyst for your next business concept.
Conclusion: Issuing Stock Is About More Than Money
That’s it, which best describes why a business issues shares? In simple terms: To raise capital to grow, and gain the flexibility, transparency and power.
This is a method for companies to get their work done fasteroften at the expense of a lack of control — with the hope of creating more, quicker and longer-lasting.
From small-scale companies to large corporations, the issue of stocks serves as a means for innovation, growth, and wealth creation.
Your Next Step
Are you interested in investing? Are you interested in IPOs or how companies raise money? Here’s how you can help:
Look into platforms like Investopedia for financial education that is accessible to beginners.
Study the upcoming IPOs and find out how companies are preparing their businesses
Get the most up-to-date stock market news from reliable sources such as CNBC and Bloomberg.
If you’re thinking of creating your own business someday, keep in mind that the importance of stocks isn’t solely related to Wall Street. They’re an instrument to plan your strategy and, occasionally, even a pivotal moment.
Continue to learn. Always grow. You never know. Someday, you could be the person who rings the bell that opens.
