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Why does a company issue stock ? Why would the funders
share the profits wih thousands of people when they could
keep profits to themselves?
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Answer Posted / sharan
Why would the founders share the profits with thousands of
people when they could keep profits to themselves? The
reason is that at some point every company needs to "raise
money". To do this, companies can either borrow it from
somebody or raise it by selling part of the company, which
is known as issuing stock.
A company can borrow by taking a loan from a bank or by
issuing bonds. Both methods come under "debt financing". On
the other hand, issuing stock is called “equity financing”.
Issuing stock is advantageous for the company because it
does not require the company to pay back the money or make
interest payments along the way.
All that the shareholders get in return for their money is
the hope that the shares will someday be worth more than
what they paid for them. The first sale of a stock, which
is issued by the private company itself, is called the
initial public offering (IPO).
It is important that you understand the distinction between
a company financing through debt and financing through
equity. When you buy a debt investment such as a bond, you
are guaranteed the return of your money (the principal)
along with promised interest payments.
This isn't the case with an equity investment. By becoming
an owner, you assume the risk of the company not being
successful - just as a small business owner isn't
guaranteed a return, neither is a shareholder. Shareholders
earn a lot if a company is successful, but they also stand
to lose their entire investment if the company isn't
successful.
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