I read that even after an IPO, a company can change the number of shares that it’s divided into based on a board vote. What’s to prevent them from arbitrarily increasing the number of shares to raise capital, thereby diluting the value of the outstanding shares?

I understand that a company might refrain from releasing all of their stock into the market initially so they can sell it later to raise capital, but it seems strange that they would be allowed to raise money by decreasing the value of an asset that shareholders have already bought.

  • 3
    $\begingroup$ I think this question is at its core about why such actions are legal or moral not about the underlying economics. I would recommend to ask this on law.SE as such questions are off topic here $\endgroup$ – 1muflon1 Jul 31 at 13:06

If it were impossible to raise equity capital once a corporation has gone public, it may be impossible for it to expand if lenders have reached the prudential limits for lending to the corporation. This is highly constraining, and could lead to the company’s bankruptcy.

Does raising capital lower share prices? If we make the assumption that the share price is always equal to book value (this obviously is often violated in the real world), when it sells new shares, it gets cash equal to the number of shares. The result is that book value and market capitalisation increase by the same amount. However, this is somewhat short-sighted way of looking at it. The corporation may only be able to survive in the long term via issuing new equity.

| improve this answer | |
  • $\begingroup$ Thanks for the answer. I tried to edit my question to capture the essence of what I’m confused about. Is it a bit more clear now? $\endgroup$ – rchurt Jul 31 at 4:32
  • $\begingroup$ +1 because this answer is correct from an economic perspective but I have strong feeling that OP is just interested in the legal/moral reasons why this is allowed which is outside the scope of economics and would be more appropriate to send OP to the proper forum $\endgroup$ – 1muflon1 Jul 31 at 13:05

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.