When a corporation is born, it comes into the world accompanied by paperwork. When the corporate founders file articles of incorporation with their state government, the articles have to authorize a set number of shares. The company doesn't have to issue all of the shares, but it can't issue more without getting approval from the stockholders. As a potential investor, knowing how much stock has been authorized and issued can help you make the best decisions.
There's no law that says a start-up has to issue X number of shares, so the number is often completely arbitrary. One corporation might authorize 50,000 shares but issued the founders less than 400. Another corporation might authorize 1,000 shares and issue one, to the sole founder. Start-up attorney Ryan Roberts recommends 10 million shares so that the company can go a long time without having to authorize a new issue.
When setting a minimum number, the company founders often look at how many shares they want to own themselves. If four founders contribute $5,000 each to a start-up, they can authorize the company to issue them 20 shares worth $1,000 each, or 4,000 shares at $5 each -- whatever they think is best for their long-term plans. On top of that, they want enough added shares that they can bring in more investors later. One rule of thumb used by some corporations is to authorize 10 times as many shares as they issue initially.
Some states, such as Delaware, require corporations to give their stock a par value. This is a face value assigned to each share of stock and has no relation to the sale price: a nickel par-value share could sell for $100, or any amount the market sets. Most companies set par value at a really low amount, such as .01 cents. That doesn't affect the sale price but it keeps any state fees low -- otherwise it can get expensive to authorize lots of stock.
When you're considering investments, it helps to know the amount of stock that a company has authorized, as well as how many shares were actually issued. If most of the stock is still unissued, it may be a ploy by the founders to keep control, by guaranteeing that nobody can get enough stock to force them out. If only a very few shares are issued, the shares might not sell easily. These are factors worth researching before buying.
- Angel and Venture Capital Guide: Authorized Shares
- Dana Shultz: How Many Shares Should My Corporation Authorize and Issue?
- Ryan Roberts: How Many Shares Should a Startup Company Authorize at Incorporation?
- Formation Solutions: Authorized Shares and Issued Shares in a New Corporation
- Dana Shultz: In Delaware, No-Par-Value Can Cost a Bundle
- Financial Web: Authorized Stock vs. Issued Stock