But as the companies grow, they need additional money to expand.
And one way that they can do this is to sell part ownership
of the company to the public.
So when companies are just basically funded by the proprietor,
basically the first source of funding typically tends to be venture capital.
Or sometimes even the first source of funding can be an angel investor, and
then venture capital.
Typically, angel investors put less than a million dollars.
Venture capital typically put in anywhere from $1 to $10 million.
And then the next round of financing happens with a private equity firm where
the private equity firm typically puts anywhere from $10 to $100 million,
even though there are also transactions where private equity firms put
more than $100 million firms.
But if a company is growing a lot and needs a whole lot of money,
then no private equity firm would be willing to put in billions of dollars.
So that's when a company decides to go public and they
enlist an investment banker or a brokerage firm to sell their shares to the public.
You may have heard of the term IPO that stands for Initial Public Offering.
This represents the first opportunity for
the public to purchase shares in a particular company.
So until a company's IPO date, they have been functioning as
a privately held entity, even when a VC was investing in the firm,
or a private equity fund was investing in the firm,
it was still a privately held company.
And one of few people owned all the stock, and
they were not registered or approved by the SEC, or the Securities and
Exchange Commission, [COUGH] as a potential investor.
By the way, the IPO doesn't happen on a whim.
At a bare minimum, it involves the company compiling an impressive track
record in business, displaying good profits and future income threats.
So if you're an investor, you should be aware that you're typically
taking more risk when dealing with an IPO than with other stock purchases.
Since the company has never been publicly traded before,
it's not a publicly traded stock.
You have little assurance that their IPO price will stabilize or increase.
Sometimes you encounter an IPO which is a lemon.
But you also encounter IPOs like Facebook, which can be enormously successful.
Let's say you acquired, you invested in the Facebook IPO, and
your newly acquired stock performs extremely well.
Some IPOs can actually double, triple or
even quadruple in a very short time period.
Take the example of Facebook for instance.
On May 18, 2012, Facebook held its initial public offering.
At that time, it was the largest technology IPO in the US history.
Facebook offered a little more than 420 million shares at a price of $38
per share which, if you do the math,
essentially they raised around $16 billion through that offering.
In three years time after the IPO, shares of Facebook closed at about $96.95.
So from $38 it went back,
it went way up to $96.95.
That's a huge return, if you look at the return over the three year time period,
comes to a little more than 150% per year.
So when you buy shares from an IPO you're essentially buying directly from
the company who use the company proceeds from the IPO for the expansion plans.
Afterwards, if you want to sell your IPO shares,
you must sell them on the secondary markets like the NYSE, AMEX, or NASDAQ.
Shares that trade on exchanges are traded between individuals and
other businesses and no more cash goes directly to the company after the IPO.
Secondary markets are where the vast majority
of securities transactions take place.
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