Authorized Shares vs.Outstanding Shares – Overview
Understanding the terminology of the stock market allows investors to make sound and smart decisions. When it comes to company shares, knowing the difference between authorized shares and outstanding shares is important to accurately calculate important ratios that speak of a company’s financial stability.
- The authorized shares are the maximum number of shares that a company can issue to investors, as established in its bylaws.
- Outstanding shares are the actual shares issued or sold to investors based on the available number of authorized shares.
- Understanding the difference between the two types of stocks allows for more accurate calculations of financial ratios and a better understanding of a company’s financial stability.
Authorized shares, (also known as authorized shares or authorized share capital), are defined as the maximum number of shares that a company is legally authorized to issue to investors, according to its own determinations. The maximum number is established in the legal constitution documents of a company, known as articles of incorporation.
There is no limit to the total number of shares that can be authorized within these documents for a larger company, while smaller companies that do not plan to expand or that have a fixed number of shareholders are limited to the number of authorized shares. than designated. For a company that does not have an authorized share restriction, the articles of association may authorize one share or millions of shares.
The number of authorized shares can be changed by vote of the shareholders, usually during the annual shareholders meeting.
The number of shares actually available to trade is known as float. There are also restricted shares, which are reserved for compensation and incentives to employees. Restricted shares are also part of authorized shares. The total number of outstanding shares of a company as seen on the balance sheet is the sum of the floating and restricted shares.
Shares that are issued or sold to investors based on the available number of authorized shares are known as outstanding shares. The number of shares outstanding is set by the investment bank implementing the initial public offering (IPO) of a company, but the number can change. A secondary offering on the stock market can increase the number of shares outstanding, as can the payment of employee stock options. Shares outstanding decrease when a company repurchases its own shares. The total number of shares in circulation cannot be greater than the total number of authorized shares as established in the bylaws of a company.
For investors, understanding the difference between authorized and outstanding shares allows more accurate calculations of financial ratios. For example, using outstanding shares to determine earnings per share (EPS) could lead to inflated earnings, while using authorized shares can drastically offset a realized loss. Investors must have a solid understanding of these underlying terms to be able to make correct calculations on the financial stability and performance of a company.