Purpose Of The Stock Market - How Businesses Benefit

The Main Benefit

If you are a business owner, what is the purpose of the stock market for you?

Lets say you want to go public. What does that mean exactly?

Well for starters, you will lose partial ownership of your company. But I will get to that in a second. First, I'll talk about the main benefit...

Easy money that you never have to pay back.

Companies use this strategy to get "free" money that is usually (and wisely) used for business expansion. A small company going public can give them the freedom to open up a new store or a few new stores with money that they never have to pay back.

As you can see, this is a very appealing option for many businesses and a main purpose of the stock market. But they must be ready.

This can be a profitable part of any business plan. But, as you may have suspected, there are down sides. One of the big ones...

Not Retaining Ownership

One of the down sides to going public is that the owner will not retain full ownership.

They will lose a percentage of they're ownership depending on how many shares you decide to sell. So, when people say they own part of a company because they own a stock, they really do own part of that company.

This is a tough decision and many companies have decided to forgo going public for this reason, as well as the fact that they would have become completely transparent (I will discuss this in just a second).

This means that the original owner will not retain full ownership. However, someone must still own the majority of the company (51%) to remain in charge.

So, you are the owner and you have decided that the benefits outweigh the risks. What now?

Hire an underwriter.

That's just a fancy word for someone who simplifies the whole process for you and eventually gives you the check.

If you are thinking that an underwriter's job is easy, think again. They have to come up with the tough decision of what the price of the IPO should be. This not only requires valuing the company, but also comparing it to all the other companies in the same industry.

There you go, another purpose of the stock market is to help investors determine the value of a company.

Eventually (as with the check they give you), they will find investors who are interested in purchasing your IPO.

So, that's the gist of it, retaining ownership. In contrast, this isn't even such a big deal compared to...

Opening Your Books To The Public

Yes, a company would have to open their books to the public and this is a major turnoff.

However, this does benefit the investors. So, it is a purpose of the stock market for them.

This is basically a value determination in the eyes of many investors. Stock can rise in anticipation of good news. And if there is good news, the stock can rise even further. However, even with good news, there is a decent amount of time that the stock will surprise you, and go down.

This is because a company's quarterly reports are not the only thing that effect the price of a stock, one of the various other things is...

Buying Back Shares

Here's a strategy that ties back to where I talked about retaining ownership of the company.

You already know that the owner must retain majority ownership. But, they can also swing back and fourth as they see fit in the amount they own, between 100% and 51%.

This can be another sign of the future of a company, either good or bad.

Usually when a company buys back their shares, it is a good sign, and when they sell more, it is a bad sign. However, if the company shows strong money management skills, the selling of more shares may not be a bad sign, but a sign that the company is about to expand.

The reason that buying back shares shows faith in the eyes of the investors is because it is a sign to them that the people running the company have faith in it and expect the share price to rise (which they now own).

Due Diligence

The purpose of the stock market for businesses is to expand their business. As you can see, it doesn't end once they go public. That is only the beginning.

As an investor, these are only a few of the things that you can look at to determine the value of a company. Trust me, you will not get bored doing research. There will be some new news event or press release that will help you make a decision about which stock to buy on a daily basis.

Another purpose of the stock market is to react to these news events and show you how our economy is truly doing.