It sounds like a obvious question but hear me out. Yes, I understand why stock price and how a company performs have a direct correlation. I do also understand that a company’s performance affects its stock price. However, I do not understand the other way around, especially when the shares crashes.
This is my understanding how stock works: when a company goes public, the company raises money from the public in exchange to the ownership of the company. Stock price going up doesn’t mean the company gains more money as the investment is already made. Stock price going down doesn’t mean it looses money as they do not have to pay back for the investment. So why do companies go bankrupt due to its stock price crashing (and possibly get delisted)?
In: Economics
Mostly it is correlation vs causation. Generally speaking stock price crashing will not directly result in bankruptcy.
But companies don’t live in isolation. Stock market falling rapidly is usually an indication that the company is either already or soon to be in some financial difficulty. Lots of smart, competitive people analyze companies for investment opportunities or to give advice to clients – they figure things out and sell if they think the situation is bad. Companies also have suppliers, bankers and customers. Once they see a company share price fall, they might rethink doing business, offering credit/loans or making long term purchase contracts because they see this as a sign of possible future issues. So these things interact with each other – falling share prices make it more difficult for a company to operate as others may do less business with them and this leads to poorer results which results in falling share prices – a kind of death spiral.
Delisting is another matter. A company is listed on an exchange if it follows the regulations of the exchange. This privilege can be rescinded for a variety of reasons. If there is insufficient shares to trade, market capitalization goes too low, the company fails to provide audited statements and all sorts of other infractions may result in the exchange no longer allowing the company shares to be traded ie it is delisted. Delisting is a pretty serious and final outcome but exchanges can suspend trading in company shares for a period if it believes that something has gone wrong. (insider trading, market manipulation, lack of disclosure etc) Suffice to say that companies in financial trouble can also find it difficult to follow exchange regulations because most exchanges REQUIRE companies to disclose material events to the public promptly.
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