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Float basics.

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Blinton   Friday, 05/28/10 05:41:47 PM
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Float basics.

Quick Answer

The float is the total number of shares publicly owned and available for trading. It's calculated by subtracting restricted shares from outstanding shares. For example, a company may have 10 million outstanding shares, but only seven million are trading on the stock market. Therefore, this company's float would be seven million.

Long Answer

Restricted and Float

When you look a little closer at the quotes for a company, you may see some obscure terms that you've never encountered before. For instance, restricted shares refer to a company's issued stock that cannot be bought or sold without special permission by the SEC. Often, this type of stock is given to insiders as part of their salaries or as additional benefits. Another term that you may encounter is 'float'. This refers to a company's shares that are freely bought and sold without restrictions in the public. Denoting the greatest proportion of stocks trading on the exchanges, the float consists of regular shares that many of us will hear or read about in the news.

Authorized Shares

Authorized shares refer to the largest number of shares that a single corporation can issue. The number of authorized shares per company is assessed at the company's creation and can only be increased and decreased through a vote by the shareholders. If at the time of incorporation the documents state that 100 shares are authorized, then only 100 shares can be issued.

Now just because a company can issue a certain number of shares doesn't mean that it is going to issue all of these shares to the public. Typically, companies will, for many reasons, keep a portion of the shares in their own treasury. For example, CTC may decide to maintain a controlling interest within the treasury just to ward off any hostile takeover bids. On the other hand, the company may have shares handy just in case it wants to sell them for excess cash (rather than borrowing). This tendency of a company to reserve some of its authorized shares leads us to the next important and related term: outstanding shares.

Outstanding Shares

Not to be confused with authorized shares, outstanding shares refer to the number of stocks that a company actually has issued. This number represents all the shares that can be bought and sold by the public as well as all the restricted shares that require special permission before being transacted. As we already explained, shares that can be freely bought and sold by public investors are called the float, and this value changes depending on if the company wishes to repurchase shares from the market or sell out more of its authorized shares within its treasury.

Let's look back at our company CTC. From the previous example, we know that this company has 1000 authorized shares. If they offered 300 shares in an IPO, gave 150 to the executives and retained 550 in the treasury, then the number of shares outstanding would be 450 shares (300 float shares + 150 restricted shares). If after a couple years CTC was doing extremely well and wanted to buy back 100 shares from the market, the number of outstanding shares would fall to 350, the number of treasury shares would increase to 650 and the float would fall to 200 shares since the buyback was done through the market (300 – 100).

Hold on a minute though - this is not the only way that the number of outstanding shares can fluctuate. In addition to the stocks it issues to investors and executives, many companies offer stock options and warrants. These stock options and warrants are instruments that give the holder a right to purchase more stock from the company's treasury. Every time one of these instruments is activated, the float and shares outstanding increase while the number of treasury stocks decrease. For example, suppose CTC issues 100 warrants. If all these warrants are activated, then Cory's Tequila Corporation will have to sell 100 shares from its treasury to the holders of the warrants. Thus, by following the most recent example, where the number of outstanding shares is 350 and treasury shares is 650, the exercise of all the warrants would change the numbers to 450 and 550 respectively, and the float would increase to 300. This effect is known as dilution.

Why Is It Important?

Because the difference between the number of authorized and outstanding shares can be so large, it's important that you realize what they are and which figures the company is using. Different ratios may use the basic number of outstanding shares while others may use the diluted version. This can affect the numbers significantly and possibly change your attitude towards a particular investment; furthermore, by identifying the number of restricted shares versus the number of shares in the float, investors can gauge the level of ownership and autonomy that insiders have within the company. All these scenarios are important for investors to understand before they make a decision to buy or sell.

Resources

* http://en.wikipedia.org/wiki/Float_(finance)
* http://www.investopedia.com/terms/f/float.asp (quick answer)
* http://www.investopedia.com/articles/basics/03/030703.asp (long answer)



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