Why do investors buy shares?
The form of return that can be expected through a stock investment would largely depend on the company. For instance, the return of an investment would either be through capital gains or through a dividend payment made by the company.
Shares for capital growth
An investor who would choose to invest in shares would do so to witness an increase in the price which would effectively translate into a profit once sold which is exempt from taxes. However, an investor should also bear in mind that he/she could also suffer a capital loss should the share price drop after investing.
Studies have revealed that over the long term a share investment has proven to draw a greater return for its investor in comparison to other forms of savings or investments.
Shares for dividends
A dividend is a form of payment made to the shareholders, usually as a distribution of its profits. A profitable company could re-invest a portion of its profits back into the business and the remainder could be distributed to shareholders based on the company’s profit distribution policy. Certain mature companies over a period of time have been identified as stable dividend paying companies.
Shares for liquidity and flexibility
Shares give an investor a considerable amount of financial control because of its flexibility and liquidity. Unlike assets such as property, shares can be easily purchased and sold through the market and is not subjected to significant transaction costs. An investor is given up to three market days to settle their outstanding amount following a purchase of shares made through the market.
Right to vote
A shareholder is entitled to participate and vote at Annual General Meetings (AGM) and at Extraordinary General Meetings (EGM) of the company, allowing them to influence important corporate decisions made. Therefore, an investor should also note that voting rights are given as per specifications made in the articles of association and the companies act.
Rights issues
A company could raise additional capital through a rights issue, where an issue of rights to the existing shareholders are offered directly from the company in proportion to their existing holding at a discounted rate in comparison to the current market price within a fixed time period.
During an issue an investor could exhaust one of the three options. An investor could either renounce the rights into the CDS which would enable him/her to sell the rights (reference price is decided by CSE), An investor could reject the rights, or an investor could choose to accept the rights which would enable him/her to purchase the shares within a specified time period.
For example, a rights ratio of 1 for 2 means a shareholder can subscribe to one new share for every two shares already held. An investor owning 100 shares prior to the rights issue gets the right to subscribe for 50 new shares or any of the three options mentioned above.
Inflation
Shares are a good investment in an inflationary environment, since share prices adjust to protect investors from the effects of inflation.
Shares as a collateral
An investor is given the ability to use his or her stock holding as collateral in order to secure a loan from a financial institution.
Capitalisation of reserves/Bonus share issues
Companies convert retained earnings (which represent the profits held in the business over time) to capital by issuing new shares to existing shareholders. The shareholders do not have to pay a consideration for these shares. This could be categorised as a benefit to the shareholders.
Courtesy: The Colombo Stock Exchange