Question

Ohn owns stock in GHWB Inc. GHWB Inc. is planning to issue 200,000 shares of common stock to finance a new factory in China. What type of risk does John face and how can he avoid it?

A. John faces inflation risk; he can sell his stock before the new shares are issued.
B. John faces inflation risk; he can sell his stock after the new shares are issued.
C. John faces share dilution risk; he can sell his stock before the new shares are issued.
D. John faces share dilution risk; he can sell his stock after the new shares are issued.

Answer 1

Option C is correct

Explanation:

Given that John owns stock in GHWB Inc. GHWB Inc. is planning to issue 200,000 shares of common stock to finance a new factory in China.

When a large number of shares are issued to finance a new factory in China, John faces some problems.

His share in the company's capital will become a small percent compared to his previous.

Because of this he faces the risk of dilution of shares. To avoid risk he can resort to selling before issue of new shares

Hence option C) John faces share dilution risk; he can sell his stock before the new shares are issued is right.

Answer 2

C is the appropriate choice.

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When the company offers more shares, the existing shares are "diluted," that is, each represents a smaller share in the company.