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Thursday, January 11, 2024 8:42:39 AM
Charles Russo
(Editors' Note: This article covers a micro-cap stock. Please be aware of the risks associated with these stocks.)
***You don't have to dig particularly deep to find shareholders complaining about dilution. Oftentimes, these complaints are valid, as in a company with a poor business model just trying to squeeze out some cash and stay alive a bit longer. Sometimes however, if done strategically and with the right timing, dilution can add to the value of a company. Distinguishing between dilution as a warning sign of distress and dilution as a show of strength is a skill crucial to being able to identify investment opportunity. This article seeks to explain why and how dilution can add to a company's value, illustrating with three current examples.
An Overview of Dilution
When a company needs to raise capital for whatever purpose, it can issue additional stock to do so. To state the obvious, the additional stock carries a percentage ownership, and so whoever buys the stock takes ownership of a certain percentage of the company. Clearly, the only place this ownership can come from is the current shareholders. Therefore, on a fundamental level, when a company issues additional equity, the current shareholders lose a portion of their ownership to the new shareholders, whether the dilution is strategically placed or not.
The important thing to remember though is that, for shareholders, this does not necessarily reduce the value of their holding. If diluting is the best, most efficient way for a company to grow at a given time, then it can increase shareholder value. A company will not issue stock for nothing in return. What it receives in return, be it the assets of another company, the knowledge and leadership of a new CEO, or just plain cash capital, adds to the value of the company. While the original shareholders ownership represents a smaller portion of the company, if the overall value of the company has risen, the value of their holding could stay the same or even rise. It all depends upon the value of the assets received for the issue................
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