You probably have seen the term dilution whenever you read something about the Stock markets, or are interested in companies that are being traded on the Stock market.
So what does dilution mean?
When a company initiates an IPO (Initial public offering) they issue a number of shares that can be traded on the public market. These shares are nothing more than equal pieces in which the company has been divided.
Let’s say that company X has an IPO and issues 1000 shares. You became one of the lucky few and managed to get hands on 10 of those publicly traded shares. In essence, this means that you own total share of 1% in company X.
One year later this company has burned through most of its cash and needs to raise more money in order to keep paying their bills. There are multiple ways for company X to do this, but for whatever reason they decide to issue another 1000 shares. You could imagine that this action “dilutes” your shares.
Where you previously owned 1% of the company, you now only own 0.5% of the whole company. This is exactly what share dilution means.
Another way to have share dilution.
Imagine company X issued the same 1000 shares on the public market during their IPO. But at the same time they also provided their 10 employees a stock option of each 100 shares. These stock option shares are not available for trading on the public market just yet. After one year when these stock options can be exercised and thus sold on the public markets, your shares again “dilute”
In short, the more outstanding shares a company issues will always create more share dilution. In most of the cases this isn't a good thing for your investment. The only way to turn back a share dilution of a company, is for a company to initiate a buyback program of their shares after which they take these shares off the publicly traded market.
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