What Happens When You Buy Stock?

A number of people do not realize what is happening when they buy stock or sell it.

When you buy stock, does the money you pay go to the company the stock represents?  

When you decide to buy stock, you tell your broker what you want to buy, and how much you want to pay for it.

The stock market is open for transactions from 9:30 a.m. to 4:00 p.m.  It is not uncommon to say that about two and a half billion shares of stock are sold by sellers, and bought by buyers each day.  

In each transaction, whether it involves a small or large number of shares of stock, the seller and the buyer are both individuals like you.  Some traders are beginners who can afford only a limited few thousands of dollars to buy stock.  Some are financial experts working for billion-dollar financial corporations, or who are themselves worth billions of dollars.  Their trades are often in the millions of dollars.  

Your sale or purchase involves another person like yourself.  If you are offering to buy shares at some given price, then that other person must be willing to sell at that same price.  

If you are willing to buy some stock, but set a price others think is too low, then you will not find a seller willing to part with his stock for so low a price.  

If you are willing to sell some stock, but set a price too high, then no buyers will pay the price you ask.  

A trade – the selling of stock by one to be purchased by another – is by agreement between individuals.  

Individuals, Not the Company

If you thought the company whose stock you are trading is somehow involved, that company neither knows nor cares about your trade of their stock.

Does that sound odd?  

The company does care when it comes to paying dividends, which usually occurs about four times a year.  Basically, the company tells brokers, “We are paying a dividend of this amount to the owner of each share of stock.  How many shares of stock do your investors have?”  Each broker then reports that information, and the company distributes the dividend.  

But if you thought the company buys or sells its stock when you sell or buy it yourself, that is not the case.  

So why does a company sell stock?  What is the purpose and advantage to selling their stock?   

Usually, a company starts out being privately-owned.  It is owned 100% by an individual or a group of individuals.  If the company is successful, it reaches a point where it needs to grow and expand.  Perhaps it is a local company in a single city which now wishes to market its products nationwide.  

Borrowing that much money from a bank is problematic.  So instead, the owners agree to “go public”, typically selling about 80% of the value of the company as public shares which anyone can buy.  

If they believe the company is worth ten million dollars, based on its balance sheet and income statement, then selling 80% of the company makes those shares of stock worth a total of eight million dollars.  The original owners retain 20% of the company; i.e., two million dollars-worth of stock.  

The owners solicit the help of a broker to arrange that sale of the stock.  When the stock sells, then that company adds eight million dollars to its treasury.  

That initial sale of stock brings in the much-needed cash to pay for the growth the company hopes to achieve.

From that point on, of course, shares of that company’s stock are bought and sold on the open market by traders large and small.  The company itself is no longer involved per se.

The company does its best to pursue its goals, which usually translates into a slowly-increasing price per share of stock.  But the company is not involved in the trading of its stock – not in any way.

Selling Its Own Stock

There are rare exceptions regarding the sale or purchase of its own stock.

For our company that authorized the sale of eight million dollars-worth of stock, suppose they also decide to sell only seven million dollars of that stock, withholding the remaining million dollars-worth of shares?  

They may project that in a few years the shares worth a million dollars now will be worth two million or even five million.  By waiting, the company can expect to receive a second big influx of cash, which can then be used for further expansion and growth – all at no cost to the company.

Buying Its Own Stock

Alternatively, a company might project that there will be a higher level of growth for its stock price over some period of time.  In that case, the company may see its own stock as a good investment, and purchase a quantity, like any other investor.  

As noted, however, these kinds of events are the exception, not the rule.  Overwhelmingly, a company’s stock is bought and sold by private investors.

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