Equity Financing

Share is a financial security issued by a joint-stock company as a means of raising long-term capital. Purchasers of shares pay money to the company and in return receive a share certificate signifying their ownership of the shares and have their ownership recorded in the company’s share register. The shareholders of the company are its legal owners and are entitled to a share in the company’s profits, receiving some of these profits in the form of dividends. Shares are traded on the stock exchange. There are two broad kinds of shares: preference shares and ordinary shares.

When a firm is incorporated, the government authority authorizes the issue of a specific number of shares, into which the total ownership is divided. The firm usually issues only a portion of the authorized shares and reserves the remainder for various purposes such as stock- option bonuses for executives. If there is only one category of ownership, each share represents its proportionate value of the total assets of the firm.

Ordinary shareholders are entitled to any net profits made by their company after all expenses have been paid, and they generally receive some or all of these profits in the form of dividends. In the event of the company being wound up, they are entitled to any remaining assets of the business after all debts and the claims of preference shareholders have been discharged. Ordinary shareholders generally have voting rights at company’s annual meetings, which depend upon the number of shares that they hold.

Not all stock in a firm necessarily carries proportionate rights to equity. Some shares may have certain circumscribed rights. Preference shares pay a fixed rate of dividend and are generally given priority over ordinary shares in receiving dividends. Ih the event of the company’s bankrupt, they also have the first claim on any remaining assets of the business after all debts have been discharged. However, generally, preference shareholders have no voting rights.

Companies sell shares to investors in so called an initial public offering. If the company needs to sell more shares later to raise cash, it is called a secondary offering. After a company has sold shares to investors the shares may be listed on a secondary market such as a stock exchange. Trading of shares on a secondary market through the stock exchange is between investors. The company, the shares of which are traded, doesn’t see any of the money.

The share price fluctuations in Lithuania are shown in Fig 5. Changes in share prices were insignificant until year 2000. However, prices of shares started to fall in 2001 reaching more than 20 percent annual decline rate in the middle of the year. Starting from 2003, share price growth rates in Lithuania are very high. For example, in 2003 share prices went up by more than 100 percent and in 2004 – by 68 percent, and in 2005 – by 53 percent.


Fig 5. Year-on-year changes in the share price index in Lithuania
Source: Vilnius Stock Exchange; index OMX Vilnius

The price that investors pay for shares on the secondary market is essentially set by supply and demand forces. The higher demand for the shares, the higher the price will be. There are many reasons why a stock might be in great demand. The most important is the company’s ability to make bigger profits.

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