Understanding Issue of Shares with Example

The issue of shares refers to the process by which a company allocates new shares to existing or new investors, often to raise capital for business expansion or to pay off debts. It is a critical financial activity influencing the company’s ownership structure and market valuation.

Companies require funds from time to time for various purposes. It can be for raising working capital, starting a new project, improving existing infrastructure, purchasing assets, etc. Issue of shares and borrowing are the ways using which companies meet their fund requirements. 

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Table of Content

• What are Shares?
• What is the Issue of Shares?
• Why Do Companies Issue Shares?
• Methods for Issue of Shares
• An Example of the Issue of Shares

Let’s begin our discussion by understanding the meaning of Shares.

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What are Shares?

Shares also known as Equities or Stocks, are company-owned units. They are the interests of a shareholder in a company. A Share is the fractional part of the share capital of the company. It gives various rights and liabilities to its holder not only to participate in profits and assets but also to enjoy other privileges listed in the Companies Act 2013. Shares are used to raise the capital that the company’s shareholders own. When a company issues shares, it sells a portion of the company to investors in exchange for capital.

The market determines the value of a company’s shares. It can be influenced by factors such as the company’s financial performance, industry trends, and overall market conditions. As a result, the value of an individual’s shares can go up or down significantly quickly, leading to potential financial gains and losses.

Common shares and preferred shares are the two main types of shares. Common shares represent absolute ownership in a company and typically come with voting rights at shareholder meetings. Preferred shares, on the other side, do not typically come with voting rights but may have a higher priority in terms of dividends and assets in the event of the company’s liquidation.

What is the Issue of Shares?

The issue of shares refers to the process by which a company raises money by selling ownership stakes in the form of shares of stock to investors. This is typically done through an initial public offering (IPO), in which the company makes its shares available for purchase on the stock market for the first time. The proceeds from the sale of shares can fund the company’s operations, expansion, or other business purposes. The number of shares a company issues and the price at which they are sold can significantly impact its valuation and ownership structure.

Why Do Companies Issue Shares?

Companies issue shares for several reasons, but the primary reason is to raise capital. When a company issues shares, it sells a portion of the company to investors in exchange for capital. This capital can be used for a variety of purposes, such as:

Financing growth: Companies may issue shares to raise capital to fund expansion plans. These plans can include opening new locations, developing new products, or acquiring other businesses.

Repaying debt: Companies may issue shares to raise capital to repay outstanding debt. It will help them to improve their financial stability and creditworthiness.

Improving liquidity: An organization may issue shares to raise capital to improve liquidity. This will allow them to meet their short-term financial obligations and take advantage of business opportunities.

Diversifying Ownership: Companies may issue shares to raise capital and diversify ownership. This allows new investors to become shareholders and can bring new perspectives and ideas to the company.

Increasing Market Visibility: Companies may issue shares to raise capital and increase their market visibility. By going public through an IPO, companies can gain a listing on a stock exchange and increase their visibility among investors and analysts.

Issuing shares can also provide a company with a source of permanent capital, as shares do not have to be repaid like debt. However, it’s important to note that issuing shares also dilutes current shareholders’ ownership. It also raises the risk of ownership for future shareholders.

Methods for Issue of Shares

There are various methods by which a company can issue shares to raise capital. These include:

Initial Public Offering (IPO)

IPO is the process of offering shares to the public for the first time. The company hires an investment bank to act as an underwriter, which helps determine the offering price and manages the sale of the shares. Companies typically use this method to raise a significant amount of capital and gain a listing on a stock exchange.

Secondary Offering

A secondary offering is when a company issues additional shares to the public after it has already gone public. This method is typically used by companies that have already completed an IPO and are looking to raise additional capital or allow current shareholders to sell some of their holdings.

Private Placement

A private placement is when an organization issues shares to a small group of investors. These investors are usually institutional investors or high-net-worth individuals. This method is typically used by companies that have yet to be ready to go public, but they are looking to raise capital without the added regulatory requirements and costs associated with an IPO.

Rights Issue

A rights issue is when a firm offers current shareholders the right to purchase additional shares at a discounted price. This method allows existing shareholders to maintain their ownership percentage in the company while also raising additional capital.

An Example of the Issue of Shares

An example of the issue of shares would be a company called XYZ Inc., a technology company specializing in developing software solutions for businesses. The company has a solid track record of financial performance. However, the management team of XYZ Inc. wants to expand the business by opening new offices in other countries and developing new products. They need to raise additional capital to do this.

The management team of XYZ Inc. decided to raise capital by issuing shares through an Initial Public Offering (IPO). The underwriter determined that the offering price for the shares should be $10 per share. The company then filed the necessary documents and issued a prospectus.

The company can choose any method to allot shares to investors who have applied for them. The allotment will be based on the number of shares applied for and the availability of shares. XYZ Inc. can raise its capital by issuing shares to expand the business and pursue its growth plans.

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Conclusion

Shares represent a unit of ownership in a company and have the potential for high returns. Each method of issue of shares has several benefits and drawbacks. The choice of method will depend on the company’s specific needs and circumstances. It’s also important to note that companies may use more than one of these methods to raise capital.