Why do BIG companies have a stock market?
This morning started playing a stock market game as practice to get used to the stock market and how it works. However, I don’t get why HUGE multi billion dollar companies like COCA-COLA or MICROSOFT need a stock market. Even GOOGLE, being a search engine holds very high stocks. Why is this necessary?
Thanks in advance. I know it’s a very elemental question but I know nothing about economics.
3 Responses
LuckyLavs
29 May 2010
JKat
29 May 2010
To be honest, those companies don’t NEED to be traded on the stock market, so that’s why some of them pay money out in dividends. They know they won’t grow allot in the future compared to the past, so they start returning some of their money to shareholders as dividends as a reward for owning the stock. Smaller companies use the stock market to finance their operations because investors give them extra money… but as companies grow to the size of Microsoft, the companies still like getting investors’ money but they also pay some of that back with dividends. Microsoft doesn’t need the stock market to survive with all their existing cash, but it helps finance some of their operations.
Zero1
29 May 2010
It’s hardly that BIG companies NEED to offer stock on the market but that when they were growing (before they became huge) they wanted the capital (cash) that stock provides in order to make the leap from small, or medium, to large. Once they hit the big time very few companies buy back all of their existing shares but rather remain "in the market"
Companies sell stock to generate capital (money), which they will ultimately use in financing their operations.
A shareholder holds a fractional interest in ownership of the company. For example, if you owned 1 out of 10 shares of Company X, you own 1/10th of that company.
Your rights as a stockholder are quite limited. You own the company, but you can’t go into your company and start using their copier, for example. Basically, all you can do is vote for a board of directors, and to a limited extent, vote on certain major events affecting the company (such as possibly acquiring another company, merger, etc).
The board of directors appoints a president, treasurer and secretary for the company (these days they are called CEO, CFO, and CIO). They owe a fiduciary duty to the shareholders to act in the best interest of the company.
Big companies didn’t start big. They likely didn’t start on the stock market either. They started as "close corporations" also called "closely held corporations" which are businesses that are not publicly traded on a market. Of course, the possibilities of acquiring more capital are a lot greater if the company is traded publicly… hence a main reason for a stock market.
After the company begins to be traded publicly, if they still need more capital, they can either sell more stocks, or they can issue corporate bonds. Bonds are essentially loans with interest that must be paid to the holder over a certain time.
Bondholders, unlike stockholders, do not own a possessory interest in the company. They are only guaranteed the payment from the bond. Stockholders by contrast, are entitled to possibly receive dividends paid out from the board (for example, profits from the current year). There is no limit to the potential upside to how much money stockholders may receive in this dividend, but they of course are limited by their fractional share. The downside is that there is no guarantee that a board must pay out a dividend to the shareholders. It can choose instead to put the money back into operations. Or to invest it. Or to give extra compensation (pay raises) to the CEO or other employees.
If you don’t like the boards decision, tough. Your remedy is to either elect another board next year, or you can sue. Boards often get sued by shareholders as breaching their fiduciary duties by not paying out a dividend, but these actions almost always lose. (Note that any action where the shareholders sue the corporation is called a "derivative suit") One more advantage for bondholders: if the company files for bankruptcy, bondholders always get paid out before stockholders do. If there is no more money left after the bondholders are paid out — the stockholders receive nothing. This is the risk of business.
I hope this clarifies some issues about corporations and why the stock market is necessary.