8. Benefits of ing is used to assist fraudulent promotion, care must be exercised not to cut off the head to cure the headache. Stock-watering is not harmful unless used to deceive, but is often a legitimate and beneficial process. It is only by this device that the promotion of many of our largest companies has been made pos sible.
As we shall see in a later chapter, the promoter, the bankers who undertake to get up the underwriting syndicate, and the members of the underwriting syn dicate themselves must be well paid for the labor and risk which they assume in promoting and financing a new business. Usually large companies cannot be formed without the effort, skill and resources of the promoters and bankers who bring together the oppor tunity and the capital to exploit it.
If they were to be paid in cash, the capital of the new concern would be impaired immediately and a much higher rate of return upon bonds and stocks would be necessary in order to induce investors to buy them. This higher rate of inteest would throw such a burden of fixed charges upon the company that its financial stability might be endangered.
By over-capitalizing the company, however, the promoters, bankers and underwriters may be paid largely in common stock, which capitalizes the antici pated profits of the business. The bonds and pre ferred issues are sold to obtain capital, which is re tained for productive use. This enables the corpora tion to borrow at a lower rate, keeps down fixed charges, improves the stability of the company, and maintains the interest of the promoters and bankers in the company for a period of months or years. By
giving their services in exchange for a speculative se curity in the form of watered stock, they have volun tarily postponed their own remuneration, upon a spec ulation. They are remunerated by the sale of their common stock in the open market, perhaps when its value has been established upon a basis of earnings.
Of course, it is possible, and it frequently happens, that the stock is worked off on the public at highly fictitious prices thru syndicate manipulations, but this same thing can be done whether or not par value is assigned or stock-watering is resorted to.
We are forced to the conclusion that while stock watering is an important factor in fraudulent pro motion, and to some extent in the artificial manipula tion of stock prices, it is not the cause of these evils, nor would the entire abolition of the practice of stock watering prevent them. The prevention of capitali zation frauds will probably be found in the more strin gent governmental regulation of the issue of securities in exchange for property or services, the enforcement of greater uniformity and publicity in corporate af fairs, particularly respecting capitalization, and the removal of par value from the stocks of mining and other speculative companies.