The Motley Fool Investment Guide : [PDF Download]

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“Companies issue more common shares when they need to create cash; with an investment bank serving as liaison, the public purchases the new shares, filling the corporate coffers. Reasons to issue new stock abound. Some companies are cash-flow negative, as we learned earlier, and therefore need the bucks to fund expansion.

Others might issue new shares or convertible warrants to pay off a new acquisition. Whatever the reason, whenever new stock is issued, the market generally devalues the existing stock. As mentioned, when we start actually valuing stocks, earnings per share is an important figure to watch.

To review, earnings per share is simply the profits of the company (net income) divided by the total number of shares of common stock. So when a company issues more shares, the earnings per share will decline, all other things remaining equal. (If you divide the same-sized pie into a greater number slices, each slice is smaller, and therefore worth less than before.

The same goes for shares in a company, and the amount of its earnings that each share commands.) Because many stocks trade mainly off a multiple of earnings per share, this is not a good thing.”

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