Share dilution occurs when a company issues new shares, increasing the total number of shares outstanding. This issuance reduces an existing shareholder’s ownership percentage of the company. For instance, if a company has 1,000,000 shares outstanding, and an investor owns 100,000 shares (10%), and the company issues an additional 500,000 shares, the total shares become 1,500,000. The investor still owns 100,000 shares, but their ownership percentage drops to 6.67% (100,000 / 1,500,000). This represents a dilution of their ownership.
Understanding the potential for this equity reduction is crucial for investors. It impacts earnings per share (EPS), as net income is now divided by a larger number of shares, potentially lowering the EPS. Furthermore, significant reductions in ownership can decrease an individual shareholder’s influence on company decisions. Historically, companies utilize new share issuance to raise capital for expansion, acquisitions, or debt repayment. A clear understanding of the principles that guide these actions is essential for shareholders to evaluate potential impacts on their investment.