A new way of sharing in the share market

If that company had been able to use repeating shares to generate extra capital at the time when its shares were still worth, say 24c, and it was turning over a similar number shares each day, it could have generated $37,500 per trading day. In only a hundred days of trading it would have been able to generate $3.75 million of new capital on this basis. In actual fact the company’s shares probably would have been worth a lot more, as the market would price in the fact that it would be able to raise the capital it needed to successfully complete the project.

The repeating shares could also have been a valuable recourse for the world’s banks in the period following the financial crisis, during which they needed to raise large slices of additional capital to maintain their lending ability and also satisfy the capital reserve requirements of regulators.

Of course, companies need to manage their capital wisely, and should not accumulate vast amounts of capital that they can’t use. For this reason, it would be necessary to add a small complication to the system, and ensure that companies could turn the repeating contribution on or off according to needs. They could give notice to the stock exchange that from such and such a date, the surcharge should be applied to all shares sold because they were in need of additional capital. And later they could notify the exchange that from such and such a date the surcharge should no longer be applied to transactions, as they did not need additional capital for the time being.

Alternatively, of course, the company could simply return the additional capital to shareholders. This would be a valuable source of additional return to shareholders.

These types of shares are likely to increase in value more than normal shares. The companies that issue them will have a free source of capital available to them whenever they need capital, without needing to dilute. Consequently, although the cost of acquisition will be 1 per cent higher than it otherwise would be, these shares could be highly sought after, as the companies will be better positioned to invest for long-term returns, and dilution would be less likely. This might create a perverse incentive however, as the shareholders might be less inclined to sell these shares, thus tending to limit the supply of additional capital.

Any change has differential effects on the various players in the market, and these would need to be modelled. On the face of it, we would expect the introduction of repeating shares to:

• favour sellers (who don’t pay the surcharge) over buyers (who do);
• favour buy and hold investors over day traders and other investors who conduct frequent transactions; and
• for the same reason favour non-profit funds over commercial funds that need to trade frequently to meet annual targets.

Clearly we would be transferring some of the cost of capital from companies to investors in used shares (as opposed to investors in new issues). And we would be reducing the overall return to investors, but not by much, especially for long-term investors who are after recurring dividends as well as capital gains. By definition, the capital gain on any investment would be reduced by the amount of the surcharge, but the total shareholder return would not be much reduced.

And, of course, there would be transaction costs. Brokers would have to deduct these before remitting the residual additional contribution back to the companies. But the transfers would be totally automated, and therefore the costs would be minimal, I would have thought.

So, what do you think? Do the benefits to the market overall outweigh the disadvantages?