Stock dilution decreases existing shareholders ownership in a company due to the company issuing new shares. Dilution can also occur when the holders of stock options decide to exercise their options.
When the number of shares outstanding increases it decreases each existing shareholders ownership in the company. The dilution has made existing shares less valuable. Dilution can also reduce the earnings per share as the earnings are now split among a greater number of shareholders.
Here’s an example of how stock dilution works using small, easy to understand numbers. Let’s say a company has issued 1,000 shares to 1,000 individuals. Each individual owns one share and in-turn owns one per cent of the company. In the future the company has another offering and issues 1,000 more shares to 1,000 new shareholders. The existing shareholders have seen their share of the company drop to 0.5 per cent.
As we said dilution can reduce existing shareholders ownership in a company and their potential earnings. Dilution can also affect voting control in a company as the drop in ownership percentage can sometime lead to greater control for shareholders wishing to vote a different way.