When you buy $1,000 of a company’s stock in your Robinhood account, how much of that cash goes directly to help fund the company and its business operations? The answer is $0.
Where Your Cash Goes: The issue of buying shares of stock to help “save” struggling companies like GameStop Corp. (NYSE: GME) and AMC Entertainment Holdings Inc (NYSE: AMC) has come up frequently on social media since the WallStreetBets-fueled meme stock buying frenzy began in January. However, experienced investors know that publicly traded companies don’t get a dime from the cash you spend buying their shares of stock.
Companies typically raise cash in the public market when they first go public via an initial public offering (IPO), a merger with a special acquisition company (SPAC) or a direct listing. However, once their shares are trading on the public market, any shares you buy in your brokerage account are coming directly from another shareholder who is selling, not the company itself. Aside from any trading fees you may spend on the transaction, every dollar you spend buying shares of GameStop, AMC or other stocks ends up in the brokerage account of the person or institution that sold them to you.
AMC and GameStop traders on Reddit and Twitter have been celebrating their efforts to “save” these companies by buying shares of stock. In reality, the companies haven’t gotten any funds from any of the recent stock buying.
How Public Companies Raise Funds: Once a company is public, it must raise capital via options such as a follow-on public offer (FPO), also known as a secondary offering. FPOs can be both dilutive or non-dilutive. A non-dilutive FPO happens when the founders or other large shareholders sell some of their shares to the public. An FPO may increase a stock’s float, or free-trading shares, but it does not increase the company’s outstanding shares or decrease its EPS.
A dilutive FPO happens when a company creates new shares to sell to the public. By creating new shares, the ownership stakes of existing shareholders are decreased slightly the same way the value of a currency erodes when central banks print more money.
Companies can also raise capital by borrowing money. However, the company must first find a lender that will agree on a reasonable interest rate. Many lenders don’t want to touch struggling companies like AMC and GameStop because they aren’t convinced they will be able to pay back their debts.
What It Means For Meme Stocks: Despite all the publicity and wild volatility in GameStop, the company itself hasn’t actually been directly helped by all the retail buying. GameStop reportedly considered selling more shares during the January rally, but the SEC has said it would closely scrutinize any company that attempted to take advantage of the extreme trading volatility to knowingly sell overpriced shares to vulnerable investors. In June 2020, bankrupt Hertz Global Holdings Inc (OTC: HTZGQ) withdrew a proposed $500 million equity offering after the SEC cracked down on the company for potentially preying on investors.
AMC, on the other hand, was able to raise $1.2 billion via debt and equity deals in January after its stock rallied more than 700%.
“The irony here, of course, is that GME couldn’t even tap equity markets to take advantage of the recent short squeeze,” DataTrek Research co-founder Nicholas Colas said this week.
He said the so-called “dumb money” flowing into the market may not be helping the companies directly, but it is certainly making short sellers think twice.
“You don’t have to be long, but betting against people who think their 10-share buy order is going to change the world is both risky and not actually a fundamentally-based investment position,” Colas said.
Benzinga’s Take: GameStop hasn’t been helped directly by all the retail stock buying, but investor enthusiasm and a higher stock price definitely help more than it hurts. If GameStop can now demonstrate its army of new investors and its massive amount of free publicity has translated into improved sales and earnings numbers, the company may have several funding options open up in the near future.
GameStop reports fourth-quarter earnings in late March.
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