Stock Market FAQs

• What is a share?

Shares/Stocks are document which allows the holder to own a part of the company. This is an important definition, holding/buying a stock is just not holding a piece of paper (or in electronic form) but it is like owning a part of the company.

• Why companies sell shares?

Any company is initially owned by a single promoter or joint promoters with unlimited liability. The term unlimited liability implies that if the company goes bankrupt, the promoters are totally liable. Sometimes the company is owned by group of people (promoters & non-promoters) with limited liability.  The term limited liability implies that the owner’s liability is limited to their contribution to the initial capital.

When business expands, the owners decide to raise money. There are many ways to raise money, one of which is to approach the common public allowing them to own some part of the company for the money they will provide.

• What is the difference between debt and equity?

Debt: Similar to normal public borrowing from banks (loans). When companies issue debt instruments, they want to borrow money from specific investors or in general public. This is different from equity which is borrowing money by selling a part of the company ownership

 

Debt	Equity
No company ownership	Part of company owned by holders
Company legally bound to pay interest (similar to loans)	Company may or may not pay dividends (not called interest since it is not decided/declared)
High preference over Equity owners	Least priority

• What are primary and secondary markets?

Primary Market: The public buys the issue directly from company e.g. IPO (Initial Public Offering)

Secondary Market: The public (investor) buys the shares from other investors e.g. normal share trading (on NSE/BSE)

• What is Fixed priced Issue and Book Built Issue?

When a company decides to go public, it wants to float the IPO. This is essentially the first time the company shares will be sold and part of ownership given away to raise funds. So what should be the basis to decide the price of the initial offering?

Fixed priced Issue: The company decides the initial price of the share (taking the help from experts) and it is mandatory for the company to disclose in the IPO documents about the various factors that are being taken to fix the particular price. The price is fixed.

Book Built priced Issue: The company uses the free market to determine the initial price offering based on the supply and demand of the proposed shares. In essence, asking the public (taking bids) to decide what is the price they are willing to pay for the share.

• What is Face Value, Price Band and Cut-off Price?

Face Value: It is the value of the share printed on the share certificate. It is normally Rs 10. The importance of the face value is only for the company, in terms of the accounting entries. The actual value or price of the share is usually higher than the face value (the difference is called the premium).

Premium = Market Value – Face Value

The money generated by selling the shares of the companies are not entered in the same place in the accounting books of the company. For e.g. if the Face Value = Rs 10, Premium = Rs 90, hence the actual price that the company received for one share is Rs 100 (Rs 10 + Rs 90). If the company floated say 1 Lakh shares, then it actually received Rs 100 Lakh by selling those shares. In accounting books however, it will write :

Equity Increase (by selling shares) = Rs 10 Lakh

Reserves & Surpluses = Rs 90 Lakh

There are obviously benefits of doing this. Face value is also called Book Value and more information can be obtained from the wiki page.

In a Book Built Issue, the promoters/owners of the company decide a price range within which the bidding can happen. This is called price band. The final issue price decided by owners after the book-built process is called cut-off price.

• What is Red-Herrings Prospectus?

It is a preliminary registration statement that must be filed with the Securities and Exchange Commission or provincial securities commission. It describes the issue (IPO) and the prospects of the company.