Stocks represent individual's ownership within a company. One of the reason why a company issues stocks publicly is to raise large amounts of capital quickly. At some point of time every company needs to "raise money" to be able to expand their business. One way they can go is to either borrow it from somebody (probably bank, taking some loan) or raise it by selling part of the company, which is known as issuing stock.
Issuing corporate bonds could be another way of raising money but it has some limitations as bonds must be repaid at interest. Money raised by the issue of stocks is never repaid.Taking loan from the bank or issuing bonds for raising money is called "Debt Financing" on the other hand, raising money by issuing stocks is called "Equity Financing". From the company's point of view, equity financing is good as they don't have to repay the debt amount to their investors nor do they have to pay the interest amount.
All the shareholders buy these stocks (equities) in a hope that, someday the stock prices would go up (as company would grow over the period of time) and its value would be worth more than what they had paid initially. However this assumption may or may not turn out to be true. The first sale of a stock is done via initial public offering (IPO).
As an investor, it becomes critically important for you understand the difference between a debt financing and equity financing. In debt financing (for example buying bonds) gives you some kind of guarantee (unless company goes bankrupt) that your principal amount is safe. You also get promised interest payments on regular intervals.Now when you as an investor are entering into equity financing (i.e buying stock from a company) , it becomes a different ball game altogether. Lets understand that "Thre is nothing guaranteed here in equity". You assume the risk of the company not being successful and you may end up loosing your capital. Usually shareholders earn a lot of money if a company is successful in their business, but they are also at the risk of loosing their capital if the company is not able to perform.
Having said these, it becomes very obvious question that what makes these stock prices rise and fall? If we can master this, we will know which stocks to buy, and which stocks to keep ourself away from. In the next post I will try to explain what makes stock prices go up and down.
Issuing corporate bonds could be another way of raising money but it has some limitations as bonds must be repaid at interest. Money raised by the issue of stocks is never repaid.Taking loan from the bank or issuing bonds for raising money is called "Debt Financing" on the other hand, raising money by issuing stocks is called "Equity Financing". From the company's point of view, equity financing is good as they don't have to repay the debt amount to their investors nor do they have to pay the interest amount.
All the shareholders buy these stocks (equities) in a hope that, someday the stock prices would go up (as company would grow over the period of time) and its value would be worth more than what they had paid initially. However this assumption may or may not turn out to be true. The first sale of a stock is done via initial public offering (IPO).
As an investor, it becomes critically important for you understand the difference between a debt financing and equity financing. In debt financing (for example buying bonds) gives you some kind of guarantee (unless company goes bankrupt) that your principal amount is safe. You also get promised interest payments on regular intervals.Now when you as an investor are entering into equity financing (i.e buying stock from a company) , it becomes a different ball game altogether. Lets understand that "Thre is nothing guaranteed here in equity". You assume the risk of the company not being successful and you may end up loosing your capital. Usually shareholders earn a lot of money if a company is successful in their business, but they are also at the risk of loosing their capital if the company is not able to perform.
Having said these, it becomes very obvious question that what makes these stock prices rise and fall? If we can master this, we will know which stocks to buy, and which stocks to keep ourself away from. In the next post I will try to explain what makes stock prices go up and down.
0 comments:
Post a Comment