How do corporations raise money?

Companies are typically looking to earn profits by selling a product or service. This is the most basic source of funds for any corporation and ideally, is the primary method that brings in money. The company must ensure that its products or services are selling for more than it costs to produce.

The net income left over after expenses and obligations is known as retained earnings. Retained earnings are important because they are kept by the company rather than paid out to shareholders as dividends. Retained earnings increase when the company earns more.

These funds can be used to invest in projects and grow the business, and using these funds means the company does owe anyone anything. In addition, they are an inexpensive form of financing. The cost of capital using retained earnings is called the opportunity cost.

Opportunity cost is what companies make shareholders give up by not getting dividends. Another benefit is corporate management can decide to use all or part of the company's earnings to pass on to shareholders. The leadership team can then decide how to use whatever remaining funds to reinvest into the company.

Companies can also choose to borrow money just like individuals. Using borrowed capital to fund projects and fuel growth is not uncommon. Debt capital is particularly useful for short-term needs. Businesses that are deemed high-growth typically need a lot of capital, and they need it fast.

Borrowing money can be done privately through traditional loans with a bank or lender or can be done publicly through a debt issue. Debt issues are known as corporate bonds, and they allow for a wide number of investors to become lenders or creditors to the company.

A company can also raise capital by selling off ownership stakes in the form of shares to investors who become stockholders. This is known as equity funding. Private corporations can raise capital by offering equity stakes to family and friends or by going public through an initial public offering (IPO).

The benefit of this method is that there is nothing to repay because this type of funding relies on investors, not creditors. It allows companies with poor credit histories to raise money.