Every company requires substantial working capital to keep their business smooth and running. Such capital proves effective at times when the company is faced with financial restrictions to keep its regular operations active. More than often, companies use their equity shares to raise the required capital known as equity share capital.
What are Equity Shares?
To understand equity share capital, individuals need to familiarise themselves with the meaning of equity shares.
Equity shares or ordinary shares that represent ownership stake in a company. Shares sold by a company function as a source of investment for the company as well.
Also, individuals who hold equity shares are said to hold fractional ownership of a company.
It also extends these following benefits to shareholders –
- Fair liquidity: Share prices are directly proportional to fluctuations in the market or to the company’s revenue generation. They may even be affected on both.
- Profitability: Investors not just benefit from the capital appreciation feature of equity shares but also earn regular dividends on their investments.
- Control on management: Shareholders with a significant per cent of shareholding can influence a company’s management significantly.
What is Equity Share Capital?
The capital a company raised by offering shares is known as equity share capital or share capital. It is the money that company owners and investors direct towards a company’s capital and use to develop or expand the operations of their venture.
Why Company Issues Equity Shares?
A company tends to invite the general public to acquire its shares as a means to earn fractional ownership of the same. Through such ownership, shareholders are entitled to earn returns in the form of dividends.
Usually, a large privately-owned company issues shares to trade publicly in a stock exchange.
However, capital generation is the primary reason why both small and large companies issue shares to the general public in the first place.
The equity share capital thus raised through equity shares issued is used for developing the business venture of the company.
Additionally, a large capital base helps them to enhance their creditworthiness in the market.
When a company issues share for investors to acquire, they also extend an opportunity to earn a share of its profits and also to stake in its equity.
Types of Equity Share Capital?
Several types of equity shares help companies generate equity share capital.
The following highlights types of equity share capital –
- Authorised share capital: The maximum amount of capital that can be issued by a particular company is known as authorised share capital. Companies can increase their permissible limit to authorise shares after they have availed permission from respective authority and have paid the required fees.
- Issued share capital: Shares which a company offers to its investors are known as issued share capital.
- Subscribed share capital: It comprises of the part of issued share capital, which the investors agree upon and accept.
- Right shares: The shares that are issued to individuals after they have invested in equity shares are known as right shares. They are issued to safeguard existing investor’s ownership.
- Sweat equity shares: As an appreciation for a job well-done, companies reward their employees or directors with shares. Such shares are known as sweat equity shares.
- Paid-up capital: It forms the part of subscribed capital which the company invests in their business.
- Bonus shares: These shares are issued to the investors in the form of a dividend.
Companies make new shares available for the public via Initial Public Offering (IPO) through the use of Book Building Process.
Risks Associated with Equity share capital?
The drawbacks of equity shares tend to magnify the risks that are associated with equity share capital.
Risks while trying to Generate Equity Share Capital –
- No Takers
A company may invite public to acquire their equity shares. Investors these days have a better understanding of how the investment market functions and which activities would prove more effective for them. They collect substantial data and analyse an investment option to judge its prospects before investing in it.
If the shares issued by a company do not match the investors’ requirements or expectations, they would not be willing to invest in them. If there are no buyers in the stock market, the company will fail to generate equity share capital.
- Insufficient Capital Generation
Even if a company manages to gain enough shareholders for their company shares, the probability of generating enough capital is still quite slim.
There are numerous equity share options available in the stock exchange market for investors to choose from. The availability of n number of investment options often limits the chance of generating sufficient equity share capital and endeavours issuing shares ineffective.
- Higher Liabilities
When companies issued a huge number of shares at low face value, they run the chance of gaining a larger number of investors they bargained for.
Having a large shareholder base proves effective only in the case when the number of shareholders is within a manageable limit. When the number becomes unmanageable, it adds on to the company’s liability burden as they have to pay a greater bulk of returns as a dividend than they had bargained for. An increased liability burden defeats the purpose of raising equity share capital and is also bad for the company’s sustainability.
To keep a better track of equity share investments, shareholders can create an equity share capital account and maintain the ledger for such transactions. Companies who offer equity shares should also maintain an equity share capital account to monitor the growth of their equity share capital.