Stock Information
What is meant by the term 'Stocks' in today's scenario, it seems familiar term to almost everybody. But many of us have a problem understanding the functionality of Stocks, its meaning, why they are there etc...
Why Stock Came into Existance:
Everything happens has some reason behind it. Stock is also no different. Let us take one example. Suppose that you want to start a business, and you open a grocery shop. First you buy a shop, make the furniture that you need, buy you supplies and hire some servers. You advertise for it and then open your doors.
• you spend $100,000 buying the shop and the equipment.
• In the first year, you spend $50,000 on supplies and payroll for your employees.
• At the end of the first year, your total income is suppose $100,000.
So, the net profit is $100,000 - $50,000 = $50,000.
Now, assume that at the end of second year, your net profit becomes $75,000. Now, you decide that you want to sell your business then what is it worth One way to say that the business is worth $100,000(asset value). But what if you keep it going.
An Art of Investment:
If you keep your business going, then it will make profit of $75,000 this year. Therefore, you can think your business as an investment that will pay you $75,000 in interest every year. Suppose the next day, 10 people come to you and say that they want to buy your business for $300,000 but they dont have that much money. So you feel that your business is worth $300,000. And for the convenience of those people you divide $300,000 into 10 equal pieces of $30,000 each. In other words, you might sell shares in the business. So every person gets 1/10th of profit each year. You can even divide the shares to 1000 people in equal rates. And the most important thing is that if you want to keep the business in your hand that you can keep half the total shares and remain the main owner of your business. This is how you end up earning money from the shares which people buy and also remain owner of your business.
So What are Stocks:
Stocks are nothing but the part of the ownership of the company. Suppose some companys total value in shares is $100 and you have $1 shares with you then you are the 1/100th owner of your company. It is as simple.
Mathamaics Behind Stocks:
Let's say that a new corporation is created and in its IPO(Initial Public Offering) it raises $20 million by selling one million shares for $20 a share. The corporation buys its equipment and hires its employees with that money. In the first year, when all the income and expenses are added up, the company makes a profit of $1 million. The board of directors of the company can decide to do a number of things with that $1 million:
• It could put it in bank and save it for a rainy day.
• It could decide to give all of the profits to its shareholders, so it would declare a dividend of $1 per share.
• It could use the money to buy more equipment and hire more employees to expand the company.
• It could pick some combination of these three options.
If a company traditionally pays out most its profits to its shareholders, it is generally called an income stock. The shareholders get income from the company's profits. If the company puts most of the money back into the business, it is called a growth stock. The company is trying to grow larger by increasing the amount of equipment and the number of people who run it.
Shareholders:
From this description, you can see that a corporation has a group of owners -- the shareholders. The owners elect a board of directors to make the company's major decisions. The owners of a corporation become owners by buying shares of stock in the corporation. The board of directors decides how many total shares there will be. For example, a company might have one million shares of stock. The company can either be privately held or publicly held. In a privately held company, the shares of stock are owned by a small number of people who probably all know one another. They buy and sell their shares amongst themselves. A publicly held company is owned by thousands of people who trade their shares on a public stock exchange.
One of the big reasons why corporations exist is to create a structure for collecting lots of investment dollars in a business. Let's say that you would like to start your own airline. Most people cannot do this, because an airplane costs millions of dollars. An airline needs a whole fleet of planes and other equipment, plus it has to hire a lot of employees. A person who wants to start an airline will therefore form a corporation and sell stock in order to collect the money needed to get started.
A corporation is an easy way to gather large quantities of investment capital -- money from investors. When a corporation first sells stock to the public, it does so in an IPO (Initial Public Offering). The company might sell one million shares of stock at $20 a share to raise $20 million very quickly (that is a simplification -- the brokerage house in charge of the IPO will extract its fee from the $20 million, but let's ignore that here). The company then invests the $20 million in equipment and employees. The investors (the shareholders who bought the $20 million in stock) hope that with the equipment and employees, the company will make a profit and pay a dividend.
Another reason that corporations exist is to limit the liability of the owners to some extent. If the corporation gets sued, it is the corporation that pays the settlement. The corporation may go out of business, but that is the worst that can happen. If you are a sole proprietor who owns a restaurant and the restaurant gets sued, you are the one who is being sued. "You" and "the restaurant" are the same thing. If you lose the suit then you, personally, can lose everything you own in the process.
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