Eli5: How does a private owned company benefit itself financially by going public?

Question

Eli5: How does a private owned company benefit itself financially by going public?

In: Economics

Answer 1

Going public allows you to sell your business — without having to sell your business.

You start a business, it’s going great, everyone loves your product or service, and you decide to go public. You create an estimate of how much your business is worth, which (for this example) is a million dollars.

You issue a million shares of stock, and sell them for a dollar apiece. All of those shares represent the total current value (or market cap) of your business; a million bucks.

BUT you don’t actually sell ALL of the shares. You sell around 20% and keep 80% for yourself. So there are 200,000 available shares for your company floating around in the stock market while you retain 800,000. (To maintain control, the company keeps a minimum of 51%, but some retain a lot more)

Now, you’ve basically sold off 20% of your company, but you didn’t actually sell anything, did you? You get to keep your job, and keep control, and basically nothing has changed except that you have $800,000 worth of stock in your back pocket for whenever you feel like converting it into cash.

Investors and banks are buying and selling shares of your company on the stock market, and slowly but surely, the price starts creeping up. Now the shares of stock that you got for free, aren’t worth $1 anymore, they’re worth $3!!!

So you used to have $800,000 worth of stock, but now you have $2.4 million. You look over at a competing business and offer to buy their company. They say they want $600,000 and you offer 300,000 in cash, and 100,000 in $3 shares of stock. Now you just reduced the number of competitors you had for almost nothing.

When a company performs well their stock price goes up, and the pile of stock they created out of thin air grows more and more valuable, allowing them to be used in place of cash for all kinds of business deals, loan collateral, executive bonuses and so on.

You get the best of both worlds, you get to cash in on the value of your business, have the prestige of being traded on the stock market, with very little downside (unless the stock tanks).