Definition of Share Capital
Share Capital is the sum total of money raised by a company from private and public sources through an issue of shares. Since a company is an artificial person and cannot generate money on its own, it sells its shares to different investors, called shareholders. These shareholders get shares of the company against the money invested.
Explanation
A company’s capital is divided into specific units of fixed amount known as shares, and the money raised by the company by selling these shares is called Share capital. The share capital of a company is not fixed, and it can be changed by issuing new shares from time to time.
Shareholders are the company owners since their money is invested in the company. Share Capital is shown under the Head Liabilities in a company’s Balance sheet.
Features of Share Capital
- The share capital of the company remains with it till the time of its liquidation.
- It is the most reliable source of raising capital for the company.
- A company has to list itself in the stock market to issue shares. So, it increases the trust of the investors in the company.
- Since shareholders are the company owners, this gives them the right to participate in the company’s management decisions.
- The shareholders get a share of the company’s profit through dividends against their invested amount.
Types of Share Capital
- Authorized Capital: Authorized capital is the maximum share capital a company can issue. The amount of authorized capital is specified in the Memorandum of Association and can be changed only by following a specific procedure underlined. For example, if the authorized capital of a company is $10,00,000 and the face value of a share is decided as $10, then the company cannot issue more than 100,000 shares to the public.
- Issued Capital: Issued capital is the share capital issued to the shareholders. It can be less than authorized capital but not more than it. For example, a company’s authorized capital is $10,00,000, and the face value of a share is $10. The company’s owners initially decided that it only needed $6,00,000 of capital so that it would issue only 60,000 shares to the public.
- Subscribed Capital: Subscribed capital is the amount of capital invested by the public. For example, a company has issued 10,000 shares at a face value of $10 per share to the public, out of which the company subscribed to only 6,000. Hence, subscribed capital will be 6,000 * $10, which is $60,000
- Called Up Capital: Called capital up is that part of subscribed capital that is called upon to pay on the shares allotted to the shareholders. The company may not require the whole capital at once, so it may ask the shareholders to pay only the portion called up. For example, a company initially asks for $5 from its subscribers of 6,000 shares. The called-up capital will be 6,000 shares * $5, which is $30,000.
- Paid-Up Capital: Paid-up capital is the total amount of capital paid by the shareholders. For example, out of the called-up amount of $5 from its 6,000 subscribed shares, the shareholders of 5500 shares paid the called-up amount. Paid-up capital, in this case, will be $5500 * $5, which is $27,500.
- Uncalled Capital: Uncalled capital is the portion of total capital the company has not yet been called upon to pay from its shareholders.
- Reserve Capital: Reserve capital is that part of uncalled capital that the company reserves until its liquidation. This portion of capital is not called upon during the company’s existence and is kept aside for the company’s creditors.
Formula of Share Capital and Example
There are two ways to calculate the share capital of a company:
Share capital = No. of Shares Outstanding * Issue Price per Share
or
Share capital = (No. of Shares Outstanding * Par Value of Share) + Additional Paid Up Capital.
The Par value here is the face value of a share. Additional paid-up capital is the capital raised more than the par value of a share.
Example #1
D&C limited issued 10,000 shares with a par value of $10 and an issue price of $15.
Solution:
Common Stock is calculated as
- Common Stock = 10000 * $10
- Common Stock = 1,00, 000
Additional Paid up Capital is calculated as
- Additional Paid up Capital = 10000 * $5
- Additional Paid up Capital = 50,000
Total capital is calculated as
- Total Capital = 1,00,000 + 50,000
- Total Capital = 1,50,000
Advantages
Here are a few advantages of raising share capital:
- No fixed monthly payments: One of the most significant advantages of share capital is that the company need not worry about fixed monthly installments and interest payments that are there in the case of bank loans. The company only distributes its profits as a dividend, which can also be halted if necessary.
- Flexibility in terms of Capital usage: The Company can use the money it raises through the issue of shares in whatever way it decides. There are no restrictions or requirements attached to the usage of the funds.
- Flexibility in terms of raising capital: Company can decide how much and when to issue shares. If the company initially requires lesser funds, it can call only that portion of the capital from the shareholders.
- Lower Risk: Raising capital through the issue of shares is less risky than other debt options. Shareholders of the company cannot force it into bankruptcy, unlike creditors, which can in case of failure of repayment.
Disadvantages
Here are a few disadvantages of raising share capital:
- Reduced ownership: One of the most significant disadvantages of raising capital through shares is the reduction in the control and ownership of the company. Each share is a part of the company, and its holder is an owner of the company. Shareholders have voting rights in terms of various business and management policies. Shareholders can even remove the owner from the leadership post if they have a majority.
- Higher rate of return: Since shareholders’ risk is high compared to creditors, they will expect a higher rate of return from the company.
- Higher cost of raising capital: Raising capital through shares is lengthy and expensive. The company has to issue the prospects informing IPO; there will reduce advertisement costs, legal costs, etc.
- Taxation: Dividends are paid from the company’s after-tax profits, while the interest paid on bank loans is tax-deductible.
Conclusion
Share capital is money raised by the issue of shares to the public, which are called shareholders of the company. It is one of the significant sources of capital funding for Joint-stock companies. Raising capital through the issue of shares has pros and cons, which a company must weigh before making funding decisions.
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