Capital Stock: Everything You Need to Know
Capital stock is common and preferred stock that a company is allowed to issue according to its corporate charter, also part of the equity on a balance sheet.4 min read
2. Why is Capital Stock Important?
3. What are the Advantages of Capital Stock?
4. What are the Disadvantages of Capital Stock?
5. The Differences Between Common and Preferred Stock
6. Frequently Asked Questions
What is Capital Stock?
Capital stock is the common stock and preferred stock that a company is allowed to issue according to its corporate charter. Common and Preferred stock can be separated into different classes of stock with their own features. In accounting, capital stock is one part of the equity section on a balance sheet.' Only corporations can sell capital stock to investors.
Capital stock is not necessarily equal to the number of shares that are currently outstanding. It is the maximum number of shares that can ever be outstanding. If a company wants to change this number, they have to change it on their charter. This is done with a vote. When companies do this, it is usually so that they can raise more capital.
To find the value of capital stock, also called share capital, you follow a simple equation:
Capital Stock = Number of shares issued x Par Value per share
For example: If a company has issued 1,000 shares at a price of $5 per share, the capital stock value would be $5,000.
It is important to note that par value is a set dollar amount assigned to each common share. Any amount paid by investors above the par value is noted in the accounting books under additional paid in capital.
The amount of capital stock can never be more than the amount of' authorized stock.
Why is Capital Stock Important?
Capital stock is the way a company raises money to expand the business. An investor can buy stock from a corporation and in return they hope to receive benefits known as dividends.
Companies can also issue stock in exchange for assets like buildings, land or equipment that they need for their business.
The amount of capital stock issued to different people, whether investors or shareholders, decides the percentage of the company that each person owns. For example, if there are 10,000 shares of capital stock and an investor owns 5,000 stocks, he owns 50 percent of the company.
What are the Advantages of Capital Stock?
- The biggest advantage to selling capital stock is that a company does not need to take out debt in order to finance new projects. If a company needs more money to grow, instead of taking out a loan that they will have to pay back with interest, they can sell capital stock.
- It also allows them to make more money than they may have been able to get if they had to take out a loan.
What are the Disadvantages of Capital Stock?
- By selling capital stock to investors, a company is giving up some of its equity.
- The more capital stock that gets issued, the more diluted the value of each share becomes.
The Differences Between Common and Preferred Stock
Preferred stockholders have a few more benefits that common stockholders. If a company liquidates (whether it is bought or goes bankrupt), the preferred stockholders will receive a payout before the common stockholders. They also receive different dividends than common stockholders, usually more.
Frequently Asked Questions
- What is a corporate charter?
A corporate charter, also known as a "charter" or as "articles of incorporation," is a legal document that is used to start a corporation. It is filed with the state government of whatever state the company incorporates in. It details things like a company's location, whether it will be a profit or nonprofit, its board composition, and its ownership structure. This also is where a company will state the number of authorized stock they intend to use.
- What is a corporate kit?
A corporate kit is a collection of a company's corporate charter, minutes from shareholder meetings, benefit plan documents, the stock register, and the stock certificate book.
- What is a stock register?
A stock register is a list of all shareholder's contact information, how many shares they own, and the identifying number of each share that is owned.
- What is treasury stock?
Treasury stock are shares that a company has repurchased from investors. Once a stock is repurchased the company can either cancel it, reissue it, or hold onto it.
- What is a share?
A share is a word used to describe a single capital stock. When a share is issued, it is identified by a share certificate or stock certificate that can be traded by the shareholder.
- What is share trading?
Share trading is the process of buying and selling shares within a company. It is a process that only goes on between shareholders and has no impact on accounting or bookkeeping unless the company actually buys them back (then they become treasury stock).
- What are Outstanding Shares?
Outstanding shares are shares that have been issued to investors and are not owned by the company. To figure out your company's outstanding shares, simply subtract the number of treasury shares from the total number of issued shares.
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