Authorized Capital Stock: Everything You Need to Know
Authorized capital stock is the largest amount of shares a company is permitted to issue.3 min read
2. Paid-Up Capital
3. Differences Between Authorized and Paid-Up Capital
4. Number of Shares in an Initial Public Offering
5. Common Stock
6. Reserved Stock Options
Authorized capital stock is the largest amount of shares a company is permitted to issue. A company's charter usually notes the number of authorized shares it can issue, but the number of shareholders may be raised or lowered based on a series of steps, or procedures, that are summarized in the charter. Companies allow for more flexibility by arranging to issue more authorized shares than the amount required. Other names for authorized shares are authorized capital stock and authorized stock. Issuing all of the authorized capital isn't required. It's acceptable to retain part of it without issuing it.
Issued Share Capital
Shares issued to shareholders are called issued share capital. Authorized capital is the highest valued amount of securities a company can issue to shareholders without violating the law. Authorized capital is divided into several categories:
- Issued capital: The value of shares that have been issued
- Paid-up capital: The money shareholders pay to the company to get shares
- Uncalled capital: The amount of money shareholders still owe for shares they've purchased
A company's paid-up capital is the amount that shareholders fund. This amount can never be higher than the company's authorized capital. Paid-up capital reflects the fact that equity funding may be needed so the company has room to grow in the market. Companies use paid-up capital in the form of Initial Public Offerings, or IPOs, and additional issues to raise financing. The amount can be calculated by subtracting the calls that are in arrears from the capital that's already been called.
Differences Between Authorized and Paid-Up Capital
Paid-up capital is a part of the authorized capital and is included in the total amount of authorized capital. After incorporation, a Private Limited Company makes a decision on how much authorized capital the company will issue and what value each share will hold for shareholders who invest in the company.
- While the authorized capital is the top value a company's shares can reach, paid-up capital is the amount shareholders pay to buy the shares.
- The paid-up capital recorded in the company's ledgers can never surpass the value of its authorized capital.
- With the permission of the shareholders, a company can increase its authorized capital at any time.
- Paid-up capital actually increases the amount of equity available to a company as well as its net worth.
- Authorized capital is the permission a company requests from the state's Registrar of Companies, which is also called the ROC.
Number of Shares in an Initial Public Offering
When filing a Certificate of Incorporation, one commonly overlooked issue is choosing the number of authorized stock shares to issue in the beginning. For most businesses, this isn't too concerning, but that's because most businesses aren't startup companies that grant stock options or pursue venture capital. The way the company is organized and how capital is raised is important to consider from the beginning, and the authorized stock issued is where it starts. There isn't a set number of authorized stock a company should authorize when starting.
The initial authorized stock is typically simple common stock rather than the more complex dual class common stock that's reserved for a company's founders. If 10,000,000 shares of authorized stock are set as the initial amount, for example, not all of those shares will be distributed to the company's founders immediately when the incorporation is established. Startups have to proceed cautiously by choosing an amount of authorized stock that accounts for the company's short-term plans for issuing stock shares as well as maintaining a reserved stock option pool.
Reserved Stock Options
Without the reserved stock option pool, the company will have to take on additional filing fees and legal fees to raise the authorized stock shares when the maximum number has been reached. While the cost to increase the number of authorized shares won't ruin most businesses, it's also sometimes disheartening to be forced to pay an extra $250 in filing fees because the authorized stock gets used up too fast.
One last thing to note, and a reason to authorize a large number initially, is that people, as a rule, prefer to have more stock options even when the percentage of the company they own is the same.
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