Shares are bought, sold, split, reverse split and can be transacted by a market-maker, who, in-essence, is a buyer. Do you not believe that a company isn't savvy enough to split the price of it's stock (making each holder the bearer of many more shares, i.e. 2:1, 4:1 splits) in order to facilitate the opportunity to attract BOTH profit takers and new buyers. This re-invents incentive and assists in the potential trading opportunities of an enterprise's stock. As well, companies frequently and willfully buy back their own outstanding shares when they are flush with cash and no longer wish to meet their obligations to those shareholders. During a buyback, the price of shares will typically rise because the company has exhibited greater cash flow, price/sales, and thus (thru share buyback) lowers the debt obligation of the enterprise to the shareholders. I believe some of your statements represent thoughts that can be made only in theory, but really don't hold merit in practice. However, the case you bring up regarding 'money' for your shares can be addressed through shareholder preference for dividends, or simply re-investing profits for the potential of higher future gains. Remember, just as you bought the non-dividend paying shares in your 'hypothetical' situation, so too, there will be another person wishing to buy your shares because dividends may not be an issue to them-- did you think you bought your shares in isolation....?? Did I miss your point, or does this address the issue of the stock market, gambling, and free-market economics?
Shares are bought, sold, split, reverse split and can be transacted by a market-maker, who, in-essence, is a buyer. Do you not believe that a company isn't savvy enough to split the price of it's stock (making each holder the bearer of many more shares, i.e. 2:1, 4:1 splits) in order to facilitate the opportunity to attract BOTH profit takers and new buyers. This re-invents incentive and assists in the potential trading opportunities of an enterprise's stock. As well, companies frequently and willfully buy back their own outstanding shares when they are flush with cash and no longer wish to meet their obligations to those shareholders. During a buyback, the price of shares will typically rise because the company has exhibited greater cash flow, price/sales, and thus (thru share buyback) lowers the debt obligation of the enterprise to the shareholders.
I believe some of your statements represent thoughts that can be made only in theory, but really don't hold merit in practice. However, the case you bring up regarding 'money' for your shares can be addressed through shareholder preference for dividends, or simply re-investing profits for the potential of higher future gains. Remember, just as you bought the non-dividend paying shares in your 'hypothetical' situation, so too, there will be another person wishing to buy your shares because dividends may not be an issue to them-- did you think you bought your shares in isolation....??
Did I miss your point, or does this address the issue of the stock market, gambling, and free-market economics?
mickanomics: Ok, in theory the value of shares can be significant without dividends... but in practice I would suggest that 99% of shares that are traded on a stock exchange are traded in the expectation of future dividends.
Ok, in theory the value of shares can be significant without dividends... but in practice I would suggest that 99% of shares that are traded on a stock exchange are traded in the expectation of future dividends.
Dividends are when companies pay out to people who hold shares. Many companies don't do dividends. Sun Microsystems (JAVA), AMD and Nvidia (NVDA) are 3 examples off the top of my head of companies that don't pay dividends.
So people don't expect dividends, necessarily. They expect to profit.
mickanomics: Adam Frost:Ignoring the event of banning reselling shares, new shares could not be sold for any more than the current market price. Not true. Imagine there are just four rare Rolls Royce cars left in the world. They only come up for sale at auction everey few years. Are you suggesting that the price in the latest sale can not be higher than the price in the previous sale?
Adam Frost:Ignoring the event of banning reselling shares, new shares could not be sold for any more than the current market price.
Not true. Imagine there are just four rare Rolls Royce cars left in the world. They only come up for sale at auction everey few years. Are you suggesting that the price in the latest sale can not be higher than the price in the previous sale?
That's a bad analogy, and you should feel bad.
A more apt analogy would be a case where many Rolls Royce's are being traded at price X. The company decides to produce several more. The fact that some people may be willing to pay 2X for the cars is meaningless as long as the market price is X, and they can therefore pick up a car for this price (assuming the cars are perfectly homogenous to fit in with the share example).
liberty student:There is uncertainty in all economic activity.
Yes, but that is not speculation on which you can make some extra profit.That is just uncertainty as you called it.
But, I make difference between this kind of "speculation" and "gambling type speculation" like when you invest on stock market. I have some small amount of shares in one company and I did not profit from it for two years because the company does not pay dividend in this crisis. When I bought that shares I knew I was gambling, and now I prefer to invest in my business and my knowledge then in stock market.
Giant_Joe: Dividends are when companies pay out to people who hold shares. Many companies don't do dividends. Sun Microsystems (JAVA), AMD and Nvidia (NVDA) are 3 examples off the top of my head of companies that don't pay dividends. So people don't expect dividends, necessarily. They expect to profit.
How exactly do they profit from their shares?
What Went Wrong with Economics
They sell the shares when price rise.
azazel: They sell the shares when price rise.
How will you find a buyer? What is their incentive to buy?
They will also sell the shares if and when the price rise.
azazel: They will also sell the shares if and when the price rise.
I give up.
Well, you better give up. It's an empirical fact that despite no dividends or very low dividends stocks are traded. Dividend yields are very low. What's more, you potential profit is much bigger buying shares of companies that do not pay substantial dividends. As well as potential for loss, of course.
XYZ sells at $10/share. The quarterly report comes in, and they profit. Their share price is adjusted for "earnings per share" (EPS).
If the EPS is $0.10, the share price then increases by 10 cents. Owners of XYZ are now $0.10/share richer. This is why people want to hold shares of companies that profit.
If there was no incentive to buy shares, why would they?
mickanomics: Håkan Kindström Arnoldson:So if you can buy a company now for a stock value of $1m and you believe that there business idea is so revolutionary that in ten years there book value will be $300m you won't buy it cause they promise not to pay dividends? Correct. Because I will have no way of getting money from my shares. I won't be able to sell them because any potential customers will say "how do I get any money from these shares?"
Håkan Kindström Arnoldson:So if you can buy a company now for a stock value of $1m and you believe that there business idea is so revolutionary that in ten years there book value will be $300m you won't buy it cause they promise not to pay dividends?
Correct. Because I will have no way of getting money from my shares. I won't be able to sell them because any potential customers will say "how do I get any money from these shares?"
This argument basically renders all forms of trade useless as well as all forms of savings except for direct personal use. It is also completely ignores the assumptions I have based my argument on. If the book value of the company will become $300m it means per definition that there are buyers who will pay $300m for the companies assets, or there books are wrong and need to make value adjustments in there books to compensate.
If a company buys a computer for instance and decide to write it of during 10 years and then the next year the market indicates that computer that are more then 1 year old are worthless they need to make adjustments to there initial assumption and write it of faster.
To get cash in the you can always use your shares to liquidate the company. As long as there are real assets behind the investment it will be worth something in the marketplace.
Dividends only serve to adjust the degree of liquidity. All things are more or less liquid.
What could happen is that there could be a discount to the price on something cause the liquidity is poor. But as long as we are speaking personal investment that isn't really relevant. There are plenty of buyers who care alot less about liquidity then the regular private investor. Capital can be utilized better if there are no restrictions for liquidity on it, so very wealthy investors and institutions will want such assets as a portion of there portfolio cause they give a higher yield and because they have no desire to be able to turn them into cash in the foreseeable future.
And also dividends are not there for the benefit of the investor. Dividends are a tool for the company to get rid of excess capital. It is a part of corporate finance planning to keep the return on the investment up by not binding more capital in the company then they can use.
Shareholders want RoE. RoE = Net Income/Shareholder's Equity = Net Income/(Total Assets - Loans). It is because shareholders want high RoE that the company pay dividends in the first place, paying dividends lower the shareholder's equity and increase the part of net income applied to there stock in the company.
If you don't want non liquid assets you shouldn't be buying stocks in the first place you should be investing in bonds or something more suitable. Stocks are made liquid today thanks to advanced global stock markets but they are really have very low liquidity. Which is why before the emergence of such markets much more external investment in companies was in the form of bonds.
Escaping Leviathan - regardless of public opinion
"Democracy is the road to socialism." - Karl Marx
Ohkay, theres something that you missed here that will fix this up.
Assume Microsoft has two sellers in the secondary market (100 shares each), one willing to sell at $100.1 the other willing to sell at $100.2, The rich and clever man for whatever reasons believes Microsoft is going to have a great 2010, so he buys up all shares (200) at $100.1 and $100.2, the stock now goes from 100.1 to 100.2. The clever mans new Demand drives the price up, in the same way that any new demand would drive the price of any good up.
The company now can dilute there shares, essentialy printing 200 new shares, this new supply (ceteris paribus) takes the market price back towards the original $100.1 mark.
What this example shows, is that companies benefit just as much from secondary sales as they do from primary sales.
Essentialy buy buying a secondary you give the company a ticket to offer a primary without diluting their stock price.
If i owned a company whos stock price in the secondary market consistently appreciated 300% due to new demand (bubble like or due to great growth), I could issue as many primaries as I want, because I know new demand in the secondary market will keep the price high.
-= Everything here is ceteris paribus, assuming people dont get scared of further dilution etc etc, or that inbetween exchanges new people enter the market etc etc=-
strat2131: The company now can dilute there shares, essentialy printing 200 new shares, this new supply (ceteris paribus) takes the market price back towards the original $100.1 mark.
Emitting new shares does not "dilute" the price in this manner. What your example illustrates is counter-fitting of shares in the secondary market by a third party.Which I really don't see how it could be done in practice since companies keep track of there own owners or at least which broker there shares are held with.
If there is say 500 shares in this company and the stock price is now $100.2 there total stock value is $50 100. If they issue 200 more shares at $100.2 they will increase there stock value with $20 040. However they also increase there asset sheet with the same amount $20 040 that they received in payment for the new shares so this should not affect the share value. At least not downward. It would if anything drive the share price up further because the companies book value/share will increase (assuming there stock value is higher then there book value to start with).
Say that there book value was $30 000 to start with. Before they issue shares the company is valuated at 167% of there book value (50 100 / 30 000 = 1.67). After they have issued the shares they will be valuated at only 140% of there book value (70 140 / 50 040) = 1.4.The stock now trades at a lower inverted-discount (sorry I don't know the proper English word). If the future expectation on the new capital is as good as on the old there is no reason why this ratio should change so the price should be now driven up so that the new capital trade at the same level as the old.
In the short-run there is dilusion. There is a "shock" the the supply and other key indicators like P/E will be broken until the new capital start generating some profits. There is a bit of lag. However this type of dillusion does not really benefit the company.
However these effects get elevated the fewer shares are issued and the higher the price is the fewer shares the company need to issue. But really it doesn't matter to the company itself at what price the new shares are being issued and in the long run this alone should have no affect on price.
The main benefit of second hand trading is prices.Without second-hand trading it would be pretty damn difficult to issue new shares though cause no-one would know what the price is supposed to be.We had the government sell out part of a telecom company here which had never been traded before and they it by selling shares to the public. Fortunately for them people are stupid trusted the government had given a fair price. It dropped like a rock soon after it started to trade in the secondary market....
Trading something that doesn't have a price in a reasonable way requires immense resources be allocated to finding out what it is worth before doing the trade. It is costly and most buyers aren't willing to pay for a proper evaluation so it would be almost impossible to sell new shares (unless the government sais the price is fair ofc...)
The question Mickanomics asked about how stock trading benefits the company has not, in my opinion, been satisfactorily answered in the prior posts. I do not have more than a rudimentary understanding of the stock market, so I would appreciate if someone could please correct any of my misunderstandings.The main answer given in reply to Mickanomics is that the higher price of shares allows a company to gain more capital when issuing new shares, ceritas peribus. But why does this really help? After all, if the company desires to get more capital it can simply continue to create and sell additional shares until market price of shares becomes zero (like certain paper monies). Doubtless a companies owners - the share holders - have every reason to impose the issue of new shares as their proportion of ownership of the company is diminished. I am not familiar with the mechanism by which a companies make the decision to issue new shares, or buy them back. Mickanomics pointed out that in the secondary market when share owner "A" sells his shares to "B" that the money given in exchange for the shares comes from B and goes to A. No portion of this money goes to the company to provide additional capital to fund its operations. Thus, it follows that investor B, regardless of how high a price he may have paid, has not brought about any increase in capital to the company. As such, it cannot be said that B has performed the entrepreneurial function of directing capital towards those lines of production where he judges the most urgent needs of consumers to be satisfied. Granted, shareholder B has gained the power to elect a board of directors that once had belonged to A. If he abstains from concerning himself with the affairs of the company and from voting, as many small investors do, then he does not appear fulfill any entrepreneurial function of directing scarce resources although the incidence of gain or loss of the companies operations will still fall on him. It is only in this latter sense that he can still warrant the title of an entrepreneur.Therefore, it seems the only capital a company attains from the market is in the initial selling of any given share (whether IPO or the issuing of additional shares). The secondary market, as far as I can see, has no direct influence on the allocation of capital goods. I'm sure there is an error in this line of thought, please correct.Thanks,
Pete:Therefore, it seems the only capital a company attains from the market is in the initial selling of any given share (whether IPO or the issuing of additional shares). The secondary market, as far as I can see, has no direct influence on the allocation of capital goods.
Posters here keep making this mental switcheroo by stacking the company vs the shareholders. The company IS the shareholders. The company "gets" from the shareholders as much as the shareholders "get" from the company -- they are one and the same thing!
If investor A owned 50% of a hot-dog stand and he sold it to person B, does the fact that B bought the shares on the "secondary" market make him any less of an entrepreneur, even if he reneged on any decision-making rights regarding the stand? Everybody wins (and no one loses) when there's a liquid market for voluntary exchange of goods/services (company shares in this case). If I owned 100% of my hot-dog stand I'd be thrilled to know there are buyers willing to pay me for % ownership in my business. By selling 20% to someone else I can diversify my risk and use the proceeds to purchase 10% in the grocery store business nearby and 0.0002% of the IBM business at the stock exchange.
A priori awareness of a market's existence makes it much more enticing and attractive for initial investors (entrepreneurs, venture capitalists) to start businesses from scratch. The existence of discerning buyers willing to own % of a promising enterprise is a major incentive for the original idea getting off the ground to begin with.
Z.
z1235: Posters here keep making this mental switcheroo by stacking the company vs the shareholders. The company IS the shareholders. The company "gets" from the shareholders as much as the shareholders "get" from the company -- they are one and the same thing!
Indeed, but they keep separate bank accounts - and that is my point. When person B buys 50% of your hot dog stand then your personal bank account balance has gone up by some amount, whilst the balance sheet of the legal corporate entity known as the hot dog stand has no additions or deductions as a result of this transaction.
I am not challenging the point that is possible for the company owners - the shareholders - to transfer money into the corporate entity or out of the company. For example, they could elect for the corporate entity to create and sell additional shares. The shareholders may themselves be the purchasers of the shares. On the other hand, they can instruct the corporate entity to pay dividends to remove money from the corporation.
z1235:By selling 20% to someone else I can diversify my risk and use the proceeds to purchase 10% in the grocery store business nearby and 0.0002% of the IBM business at the stock exchange.
True, but this does not demonstrate the funds finding their way out of the bank accounts of the investors and over into the balance sheets of corporations. This simply moves shifts the matter over one step where all the same applies. Unless, of course, the new purchases referred to here are the first purchases of a shares wherein the corporation would be the seller of that share and thus receive the proceeds of the sale.
z1235:A priori awareness of a market's existence makes it much more enticing and attractive for initial investors (entrepreneurs, venture capitalists) to start businesses from scratch. The existence of discerning buyers willing to own % of a promising enterprise is a major incentive for the original idea getting off the ground to begin with.
So when an initial investor sells 100% of the business he started from scratch to other investors, surely the company does not acquire capital as a result of this transaction. Would the initial investor give some portion of the proceeds of the sale over to the corporate for the benefit of that which he no longer owns? Surely not - the money the initial investor receives remains with him and does not enter the balance sheet of the corporation.
Pete:So when an initial investor sells 100% of the business he started from scratch to other investors, surely the company does not acquire capital as a result of this transaction. Would the initial investor give some portion of the proceeds of the sale over to the corporate for the benefit of that which he no longer owns? Surely not - the money the initial investor receives remains with him and does not enter the balance sheet of the corporation.
Yes, when I sell 100% of my car to you, none of the proceeds go toward the car, and they all go to me. Is this a problem which needs a solution of some sort? Is the fact that the car is not "benefiting" from our transaction in any way suggesting that "secondary" car markets are not helpful or beneficial?
Yes, although we must strain the analogy a bit. As none of the proceeds benefit the car, we cannot say that a high selling price helps the car, or a low selling price hinder the car. The car remains the car as is. Likewise goes for the corporation. A high or low selling price of shares of ownership does not benefit or hinder the corporations operations. It does not diminish or increase the capital on its books. Thus, we cannot say the act of purchasing shares in the secondary market at various prices affects in any direct way the allocation of capital goods of that business for which shares were bought and sold.
Pete:Thus, we cannot say the act of purchasing shares in the secondary market at various prices affects in any direct way the allocation of capital goods of that business for which shares were bought and sold.
on the other hand 'indirectly', its of paramount importance. see Mises, Machlup, Reisman, et al.
Where there is no property there is no justice; a proposition as certain as any demonstration in Euclid
Fools! not to see that what they madly desire would be a calamity to them as no hands but their own could bring
The entrepreneur characterized by Mises is (1) who bears the loss, or benefits from the gains, of capital goods (2) uses his insight to direct the allocation of capital goods into new or different lines of production according to what he believes most urgently satisfies the needs of consumers.
I take it as a concession to my point that you are not citing any direct effects, but must appeal to what is indirect. My point is that the secondary trading of shares of the ownership of companies in a stock market does not directly result in any reallocation of capital goods into new or different lines of production. I will agree that the actions of an share holder in directing the affairs of a company (e.g. electing the board) or first time purchases of company stock does directly result in any reallocation of capital goods into new or different lines of production.
Of course since everything affects everything else there always will be indirect affects. What I am failing to see, however, is how the design of the stock market is intended to relate the sales of secondary purchases to any specific direction in the allocation of capital goods into the various potential lines of production. In other words, it is not the price of the sale of stock that brings about the allocation of capital goods, it is only the actions investors take in exercising their property rights to direct the usage of that property as they see fit.
Pete:What I am failing to see, however, is how the design of the stock market is intended to relate the sales of secondary purchases to any specific direction in the allocation of capital goods into the various potential lines of production.
Here again is what nirgrahamUK posted before:
George Reisman: The Specific Productive Role of the Stock Market A widespread misconception is that the stock market is somehow divorced from genuine productive activity except insofar as it is the source of funds going directly to corporations in exchange for newly issued stock. On this view, the overwhelming bulk of stock market activ- ity, which consists of the trading of already outstanding shares, makes little or no contribution to the productive process. It should be realized that the ability of stockholders to sell their shares provides a major inducement to the purchase of those shares in the first place. If it were not for the existence of the stock market and its continuous trading in already issued stock, any purchaser of newly issued stock would be faced with the prospect of not being able to sell his stock, or of being able to do so only with great difficulty. Such a prospect would greatly discourage the initial purchase of stock from the issuing corporations and would thus greatly reduce the availabil- ity of capital to those corporations. The existence of the stock market and its continuous trading in outstanding shares makes it possible for the individual investor to liquidate his investment at virtually any time, even though the funds initially supplied to the corporation itself may be invested in assets that have a productive life of several decades or more and cannot be recovered from business operations in any less time than that, and, indeed, will most likely be permanently retained by the business enterprise in which they have been invested. Furthermore, it should be realized that the sale of already issued stock can be, and very often is, the source of funds for investment in the actual physical assets of a business by the individual shareholders who sell their holdings. For example, the owner of a drug store or restaurant who owns stock in IBM or General Motors, say, may very well decide to sell his shares, or use them as collateral on a loan, in order to raise money to expand his own business activities. In this way, the stock market provides a source of funds for investment in physical assets of business through the trading in already out- standing shares. The determination of the price of stock in the market for already outstanding shares plays a major role in deciding whether or not it is worthwhile for the present stockholders to have their corporation issue additional shares. Other things being equal, the higher is the price of a share of its stock, the smaller is the percentage of the corporation that must be given up in order to raise any given sum of money, and thus the more likely is it that it will be worthwhile for the present stockholders to have the corporation sell additional stock. By the same token, the lower is the price of its stock, the less likely is it to be worthwhile for the present stockholders to have their corporation sell additional shares. For example, if a corporation has 1 million shares of stock outstanding, and the price of its stock is $10 per share, then in order to raise a million dollars through the sale of new stock, it must sell an interest to outsiders that will amount to one-eleventh of itself—i.e., 100,000 shares out of a new total outstanding of 1.1 million shares. If the price of the corporation’s stock were $100 per share, however, then it could raise an additional million dollars by selling to outsiders less than 1 percent of itself—i.e., only 10,000 shares out of a new total of 1 million shares plus 10,000 shares. By the same token, if its stock had a market value of only $1 per share, it would have to sell 50 percent of itself in order to raise a million dollars. On this basis, it should be obvious that the stock market plays a decisive role in determining whether or not a corporation will find it worthwhile to issue new stock. In connection with this point, it must be said that the stock market makes it possible for firms that demonstrate their success to obtain capital at a much faster rate than they could if they had to rely exclusively on the reinvest- ment of their profits. A firm’s demonstration of the ability to earn a high rate of profit on its existing capital operates to raise the price of its outstanding shares and thus to make it possible and worthwhile for the firm to obtain substantial additional capital from the sale of additional stock. In this way, the firm can obtain control over larger sums of capital more rapidly than would otherwise be the case. Indeed, if it increases its equity in this way, the firm correspondingly increases its capacity to borrow and can thereby raise still more capital if it wishes. By these means, successful small businesses are enabled to grow into large businesses and play a more important role in the economic system more rapidly than they otherwise could. At the same time, as an important consequence, they are enabled to challenge the existing large firms all the more rapidly. Finally, it must be pointed out that the existence of the stock market serves to penalize poor management and to offer a protection against the abuse of stockholders by corporate managements. The effect of poor management, or of the abuse of stockholders, is a low price of the firm’s stock relative to the value of the firm’s assets. This situation invites an outside takeover of the firm, the firing of its present management, and, very often, the sale of some or all of its assets to other firms which are capable of putting them to better use. Apart from anything else, the mere fact of changing circumstances, and the inabil- ity of many corporate managements to keep pace with the changes, repeatedly necessitates the breakup of ex- isting corporations, as the land sites their facilities oc- cupy and often the facilities themselves and much of their equipment become more useful in other employments than in their present employments. Regrettably, in the present-day United States, this important function of the stock market, of serving to bring about the redeployment of the physical assets of business firms in different hands and often for different purposes, is threatened by government intervention de- signed to protect incompetent managements from the threat of outside takeovers. With the narrow-minded perspective that is typical of opponents of the free mar- ket, the enemies of corporate takeovers can see only that some existing “jobs” are eliminated. They do not see the new employment opportunities that are created in other firms, accompanying the availability of the capital assets that have been sold to them. They are unaware that the very fact that the assets of a firm are worth more in being sold off than in being retained is virtual proof that their employment elsewhere will be more productive and thus will contribute to a more rapid rate of capital accumula- tion and a higher productivity of labor. They do not even see that corporate takeovers, followed by the selling off of assets, are a powerful remedy for previous ill-conceived mergers, whose existence, along with all other mergers, the enemies of capitalism never tire of denouncing.
The Specific Productive Role of the Stock Market A widespread misconception is that the stock market is somehow divorced from genuine productive activity except insofar as it is the source of funds going directly to corporations in exchange for newly issued stock. On this view, the overwhelming bulk of stock market activ- ity, which consists of the trading of already outstanding shares, makes little or no contribution to the productive process.
It should be realized that the ability of stockholders to sell their shares provides a major inducement to the purchase of those shares in the first place. If it were not for the existence of the stock market and its continuous trading in already issued stock, any purchaser of newly issued stock would be faced with the prospect of not being able to sell his stock, or of being able to do so only with great difficulty. Such a prospect would greatly discourage the initial purchase of stock from the issuing corporations and would thus greatly reduce the availabil- ity of capital to those corporations. The existence of the stock market and its continuous trading in outstanding shares makes it possible for the individual investor to liquidate his investment at virtually any time, even though the funds initially supplied to the corporation itself may be invested in assets that have a productive life of several decades or more and cannot be recovered from business operations in any less time than that, and, indeed, will most likely be permanently retained by the business enterprise in which they have been invested.
Furthermore, it should be realized that the sale of already issued stock can be, and very often is, the source of funds for investment in the actual physical assets of a business by the individual shareholders who sell their holdings. For example, the owner of a drug store or restaurant who owns stock in IBM or General Motors, say, may very well decide to sell his shares, or use them as collateral on a loan, in order to raise money to expand his own business activities. In this way, the stock market provides a source of funds for investment in physical assets of business through the trading in already out- standing shares.
The determination of the price of stock in the market for already outstanding shares plays a major role in deciding whether or not it is worthwhile for the present stockholders to have their corporation issue additional shares. Other things being equal, the higher is the price of a share of its stock, the smaller is the percentage of the corporation that must be given up in order to raise any given sum of money, and thus the more likely is it that it will be worthwhile for the present stockholders to have the corporation sell additional stock. By the same token, the lower is the price of its stock, the less likely is it to be worthwhile for the present stockholders to have their corporation sell additional shares. For example, if a corporation has 1 million shares of stock outstanding, and the price of its stock is $10 per share, then in order to raise a million dollars through the sale of new stock, it must sell an interest to outsiders that will amount to one-eleventh of itself—i.e., 100,000 shares out of a new total outstanding of 1.1 million shares. If the price of the corporation’s stock were $100 per share, however, then it could raise an additional million dollars by selling to outsiders less than 1 percent of itself—i.e., only 10,000 shares out of a new total of 1 million shares plus 10,000 shares. By the same token, if its stock had a market value of only $1 per share, it would have to sell 50 percent of itself in order to raise a million dollars. On this basis, it should be obvious that the stock market plays a decisive role in determining whether or not a corporation will find it worthwhile to issue new stock.
In connection with this point, it must be said that the stock market makes it possible for firms that demonstrate their success to obtain capital at a much faster rate than they could if they had to rely exclusively on the reinvest- ment of their profits. A firm’s demonstration of the ability to earn a high rate of profit on its existing capital operates to raise the price of its outstanding shares and thus to make it possible and worthwhile for the firm to obtain substantial additional capital from the sale of additional stock. In this way, the firm can obtain control over larger sums of capital more rapidly than would otherwise be the case. Indeed, if it increases its equity in this way, the firm correspondingly increases its capacity to borrow and can thereby raise still more capital if it wishes. By these means, successful small businesses are enabled to grow into large businesses and play a more important role in the economic system more rapidly than they otherwise could. At the same time, as an important consequence, they are enabled to challenge the existing large firms all the more rapidly. Finally, it must be pointed out that the existence of the stock market serves to penalize poor management and to offer a protection against the abuse of stockholders by corporate managements. The effect of poor management, or of the abuse of stockholders, is a low price of the firm’s stock relative to the value of the firm’s assets. This situation invites an outside takeover of the firm, the firing of its present management, and, very often, the sale of some or all of its assets to other firms which are capable of putting them to better use. Apart from anything else, the mere fact of changing circumstances, and the inabil- ity of many corporate managements to keep pace with the changes, repeatedly necessitates the breakup of ex- isting corporations, as the land sites their facilities oc- cupy and often the facilities themselves and much of their equipment become more useful in other employments than in their present employments. Regrettably, in the present-day United States, this important function of the stock market, of serving to bring about the redeployment of the physical assets of business firms in different hands and often for different purposes, is threatened by government intervention de- signed to protect incompetent managements from the threat of outside takeovers. With the narrow-minded perspective that is typical of opponents of the free mar- ket, the enemies of corporate takeovers can see only that some existing “jobs” are eliminated. They do not see the new employment opportunities that are created in other firms, accompanying the availability of the capital assets that have been sold to them. They are unaware that the very fact that the assets of a firm are worth more in being sold off than in being retained is virtual proof that their employment elsewhere will be more productive and thus will contribute to a more rapid rate of capital accumula- tion and a higher productivity of labor. They do not even see that corporate takeovers, followed by the selling off of assets, are a powerful remedy for previous ill-conceived mergers, whose existence, along with all other mergers, the enemies of capitalism never tire of denouncing.
DD5 thanks for pointing me back to the prior post. Although I read through many of the prior posts, this one was not among those I selected to read - but had I done so it would have answered my questions. I appreciate your reply.
Håkan Kindström Arnoldson: Emitting new shares does not "dilute" the price in this manner. What your example illustrates is counter-fitting of shares in the secondary market by a third party.Which I really don't see how it could be done in practice since companies keep track of there own owners or at least which broker there shares are held with.
Why are you trying to seperate the two identities, it makes no difference. In the secondary market, a company printing new shares and selling them, is identical to a counter-fitter issuing new shares and selling them.
The Company/Counterfitter transfers money from the existing shareholders to its own book. Dont try to confuse things by adding motives.
Håkan Kindström Arnoldson: Which I really don't see how it could be done in practice since companies keep track of there own owners or at least which broker there shares are held with.
Which I really don't see how it could be done in practice since companies keep track of there own owners or at least which broker there shares are held with.
I didnt imply a counter-fitter for this simple reason. I implied the simple addition of new stock onto the market
Håkan Kindström Arnoldson: If there is say 500 shares in this company and the stock price is now $100.2 there total stock value is $50 100. If they issue 200 more shares at $100.2 they will increase there stock value with $20 040. However they also increase there asset sheet with the same amount $20 040 that they received in payment for the new shares so this should not affect the share value.
If there is say 500 shares in this company and the stock price is now $100.2 there total stock value is $50 100. If they issue 200 more shares at $100.2 they will increase there stock value with $20 040. However they also increase there asset sheet with the same amount $20 040 that they received in payment for the new shares so this should not affect the share value.
First of all, they cannot issue new shares at the new market price, for it was the original investor who moved it from 100.1 to 100.2, You are now assuming that new people will enter the market and buy at 100.2 this is just a silly mistake.
Håkan Kindström Arnoldson: It would if anything drive the share price up further because the companies book value/share will increase (assuming there stock value is higher then there book value to start with).
It would if anything drive the share price up further because the companies book value/share will increase (assuming there stock value is higher then there book value to start with).
Im starting to think you have never bought a share, If issuing new stock increased the share price why would companies not issue infinite stock.
This is obvious supply and demand, an increase in the supply of shares means the price level must re-adjust downwards.
Håkan Kindström Arnoldson: If the future expectation on the new capital is as good as on the old there is no reason why this ratio should change so the price should be now driven up so that the new capital trade at the same level as the old.
If the future expectation on the new capital is as good as on the old there is no reason why this ratio should change so the price should be now driven up so that the new capital trade at the same level as the old.
Nope just the opposite, in order for the share value to maintain parity with its book value, the price of the share must go down, because now there is more shares in circulation.
Håkan Kindström Arnoldson: In the short-run there is dilusion.
In the short-run there is dilusion.
Yep damn right.
Håkan Kindström Arnoldson: There is a "shock" the the supply and other key indicators like P/E will be broken until the new capital start generating some profits.
There is a "shock" the the supply and other key indicators like P/E will be broken until the new capital start generating some profits.
Why introduce new capital, and why assume it will generate profits.
Im focusing on how companies can tap into the secondary market by creating new shares. Im not trying to say that issuing new stock is bad and that it ceteris paribus hurts shareholders in the long run. Sure a company could raise 1million in IPO's and then buy a magical box that increases its value 10 trillion fold. Im only trying to make the point that when an individual/group of individuals raise the stock price X amount, the company can now tap X amount of new funds.
Håkan Kindström Arnoldson: The main benefit of second hand trading is prices. Without second-hand trading it would be pretty damn difficult to issue new shares though cause no-one would know what the price is supposed to be.
The main benefit of second hand trading is prices.
Without second-hand trading it would be pretty damn difficult to issue new shares though cause no-one would know what the price is supposed to be.
Yes this maybe true, but it is not my argument, I was merely addressing another poster, who said:
Mickanomics: I think a distinction needs to be made between the people who buy up the original shares when a company first sells them, and people who do secondary deals. When people buy the original shares, their money can be considered an investment in the company. The money goes to the company and can go towards buying new equipment. But people who buy "second hand" shares are not contributing anything at all towards the company (are they?). I don't see how they can be classed as "investors" - because the "investment" has already taken place.
I think a distinction needs to be made between the people who buy up the original shares when a company first sells them, and people who do secondary deals. When people buy the original shares, their money can be considered an investment in the company. The money goes to the company and can go towards buying new equipment. But people who buy "second hand" shares are not contributing anything at all towards the company (are they?). I don't see how they can be classed as "investors" - because the "investment" has already taken place.
So to reiterate, when an investor drives up the price buy buying new stock in the secondary market, the company can now issue shares and drive the price back towards its previous point. Effectively transferring wealth from the secondary market to its own books. This is why many companies try very hard to maintain there stock price. Its not because it helps people better understand the price (I doubt they care,) or because the existence of a secondary market drives up the price (I cant even put in words the obvius error in that line of thought.) Its because new buyers coming into the market driving up the price allows them to tap more money from the market.
Thus secondary investors ARE making an investment that benefits the company.
If IPO's were fast enough they could replace the stocks the initial investor bought and no-one would no the difference. The only thing that would happen is that instead of the price increasing from 100.1 to 100.2, it would stay at 100.1 and they would have to earn more money to maintain there Dividends.
strat2131: Why are you trying to seperate the two identities, it makes no difference. In the secondary market, a company printing new shares and selling them, is identical to a counter-fitter issuing new shares and selling them. The Company/Counterfitter transfers money from the existing shareholders to its own book. Dont try to confuse things by adding motives.
Motive is not the difference I was after. The key is who gets the money.
If the company gets the money it adds value to the company and also to the existing and new shareholders since they are the company. There is no diluting of value what so ever involved in this scenario.If a third party get the money from new shares it adds no value to the company and the stock value will get dilluded case the now money don't go into the company which the stocks represent.
strat2131: First of all, they cannot issue new shares at the new market price, for it was the original investor who moved it from 100.1 to 100.2, You are now assuming that new people will enter the market and buy at 100.2 this is just a silly mistake.
Why wouldn't they? If that investor thought the company was worth that much surley there will be others who do that too....
strat2131: Im starting to think you have never bought a share, If issuing new stock increased the share price why would companies not issue infinite stock. This is obvious supply and demand, an increase in the supply of shares means the price level must re-adjust downwards.
Prices often go up after companies announce that they will emit new shares. Which anyone who ever traded one should know.The last one that happened on stocks I owned the price went up 7% in just a few hours after they announces they would issue new shares.A rapid change like this is most likely because investors believe that the company will underestimate the future price used when they calculate the issuing price of the rights to buy new shares. But an expectation that the company will perform better (in terms of relative return) with more capital will also drive the price up.
Further more new shares don't go directly in to the second hand market. First rights to buy the new shares are issued and offered to existing share owners, these rights can be traded for a while before the new shares are issued. These rights are also priced in such a way as to prevent any price diluting of the stock from taking place.
You see first rights to buy new shares are offered to the current owners, if they don't want to buy them they get offered to the public. Then these rights get traded in the secondary market for quite a while so that when the new shares are finally issued the price of a new share + the price of a right to buy one will hopefully equal the price the old stock is trading at. This is all elaborately devised by some pretty brilliant people exactly to avoid short-term price fluctuations from stuff like supply shocks when issuing new shares.
Companies don't issue infinite shares cause it decreases the ownership power of each share, and also they obviously wouldn't need infinite capital.
For the same reason companies get rid of capital by paying dividends they wouldn't want to take it in by issuing new shares. At some point it can no longer be allocated efficiently and it decreases the relative return the investors get on there investment. Then it will drive down the price cause the returns look bad, but that isn't relevant if they actually need the new funds.
Cause if it wouldn't increase profits and the returns on total assets in the long run the company wouldn't issue new shares. Unless it is a scam that simply fund there operations in this manner, there are a few of these micro-caps....
Except:1. They could still raise the money before if there is any interest in the company. It is just a matter how many stocks they have to issue.2. What if those was the only buyers at that high price? Now they already have all the shares they want and won't buy any new ones...3. All you are saying is someone want to buy the company at price X. It matters little if they get served by secondary market first or directly by the company.
So to reiterate, when an investor drives up the price buy buying new stock in the secondary market, the company can now issue shares and drive the price back towards its previous point.
Or this person could just buy new stocks.
Effectively transferring wealth from the secondary market to its own books.
Yes they do transfer wealth from new investments into there own books. That is kinda what issuing shares is all about.
This is why many companies try very hard to maintain there stock price. Its not because it helps people better understand the price (I doubt they care,)
It is not because they may sometime in the future possibly issue new shares that companies take care of there stock value.
As someone pointed out the company IS the shareholders. Big wonder they try to keep the market value of there property high and fire any administration that fail to do so...