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Financial Literacy

Understanding Share Allotment

If you follow a company’s financials, you might see instances of share allotment in its SEC filings. What is share allotment? In simplest terms, it’s the creation of new shares by the company, issued to new or existing shareholders. The total number of shares and their structure constitute the allotment. 

The allotment of new shares comes with a wide array of implications for the company and shareholders alike. In some cases, it’s seen as a positive move; in others, it’s viewed negatively. The context of when and why the company creates new shares matters, as does the total number of new shares created. Here’s what investors need to know about share allotment and what it means for their position—or the position they’re thinking about opening. 

What is share allotment

When Does Share Allotment Take Place?

Share allotment takes place primarily during a company’s IPO process. However, allotment also takes place any time the company wants to raise more capital in the future through the issuance of new shares. Stock splits are also a form of allotment. 

The IPO is the most important share allotment a company goes through, because it establishes the share structure of the company from day one. Allotment establishes not only how many available shares there are, but also the distribution of those shares. During the initial allotment at IPO, share distribution can actually vary. This is because the first offering of stock relies heavily on estimated demand. As a result, stock prices can rise or fall based on how many shares are allotted and what the demand for those shares is. 

Future allotments are much easier to anticipate. This is because companies know exactly how much money they want to raise, or have a target share price in mind for the allocation. It’s easier to allocate new shares based on proven market sentiment. 

How are Shares Typically Allocated?

Allotment distribution is important, because it determines where newly minted shares go and who controls them. Again, this is most important during the IPO process, since these shares will be the first offering to the secondary market. Typically, IPO allocations shake out like this:

  • Lead underwriters get the bulk of the shares—as much as 60%. 
  • Secondary underwriters account for roughly 30% of remaining shares.
  • IPO managers tend to see the remaining 10% of shares.

These numbers can fluctuate, but the split is typically 90% institutional and 10% retail. This is why it’s so difficult for retail investors to get their hands on IPO shares at the start. Over time, this ratio evens out and more retail shares become available as institutional investors take profits and release shares into secondary markets. 

Why do Companies Create and Allocate New Shares?

Share allocation occurs because companies need to raise money. The IPO process is the prime example of this, and it’s why a majority of companies go public. Share allocation provides them with liquidity and the funding they need to continue growing. 

Why do well-established companies allocate new shares? For the same reason! Remember that the stock market is an equity market. Allocating more shares allows companies to raise money for a variety of reasons, including to pay down debt, finance expansion, fund M&A activities and more. 

Financing is the number one reason companies issue new shares. The lesser reason for new share allotment usually has to do with corporate action to adjust share price. This might mean a stock split, to make the share price more attractive to new investors. Or, it could mean issuing a new class of shares to attract investors. Again, the underlying reason is likely motivation to acquire financing. Share allocation is a great way to raise capital without adding debt to the balance sheet. 

What are the Implications of New Shares?

While new share allocations open a company up to infusions of capital, they can also have negative effects. Namely, share dilution and impact to fundamentals like earnings per share (EPS).

Share dilution reduces the proportion of ownership current shareholders have. For example, if you owned 100 shares of a company with 1,000 available shares, you’d own 10%. If the company allocates an additional 1,000 shares, your ownership stake becomes 5%. This happens to every shareholder whenever new shares enter circulation. The result is often a dip in share price.

Fundamentals also suffer with the introduction of new shares. If the anticipated EPS of a stock this quarter is $3, new allocation could push that figure down to $1.75, making it less appealing to investors. Moreover, current shareholders may choose to sell on lower EPS outlook and a dip in share price. 

Unless there’s an overwhelmingly positive reason for new share allocation, it runs the risk of a poor reception among current shareholders. To assuage these feelings, new allocations often come with the option for current shareholders to purchase new shares first or at a discount. 

The Bottom Line on Share Allotment

Context is everything when it comes to share allotment. For a company with great momentum and huge growth prospects, share allotment can open up a new runway for funding scalability. For debt-burdened enterprises with financial struggles, new allotments are often negatively viewed as dilutive. And, of course, it’s important to pay attention to shares issued during a company’s IPO process, to understand share ownership structure. 

The goal is always to grow and move forward. And the same is true for investors. To learn more about generating wealth in your life, sign up for the Liberty Through Wealth e-letter below. Financial freedom is attainable if you make smart investment throughout your life.

New allotment can be a boon for existing shareholders or an entry point for prospective ones. Or, it could be a signal to shed losses before dilution hits. Consider the reason behind share allocation and the fundamentals of the company to decide for yourself.


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