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Chapter = 9

Chapter = 9. Capitalization. Gerstenberg says. “For all practical purposes capitalization sometimes means the total accounting value of all the capital regularly employed in the business”

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Chapter = 9

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  1. Chapter = 9 Capitalization

  2. Gerstenberg says “For all practical purposes capitalization sometimes means the total accounting value of all the capital regularly employed in the business” According to this definition, Capitalization includes share capital, borrowed capital and different types of reserves and surplus.

  3. Difference • Capitalization Capitalization in business is meant by the total amount of capital invested which include share capital, debt capital and reserves and surplus. • Capital Capital means the net worth of a business. • Capital structure Capital structure means the mutual relationship among the long-term sources of capital which include owned capital, preference share capital and long term loans. • Financial structure The financial structure means the composition of liability side of balance sheet.

  4. Theories of Capitalization • Cost theory of Capitalization • Capitalized value of Earnings theory

  5. Types of Capitalization • Over Capitalization • Under Capitalization

  6. Bonneville and Dewey says “When a business is unable to earn a fair rate of return on its outstanding securities, it is over capitalized.”

  7. Real value of Total Assets < Book value of Total Assets • Par value of shares • Market value of shares • Book value of shares • Real value of shares

  8. Causes of Over Capitalization • Promotion of the company with inflated assets • High promotion expenses • Over estimating earnings at the time of promotion • Capitalising earnings at lower rates • Formation or expansion of the company during inflationary period • Shortage of capital • Defective depreciation policy • Liberal dividend policy • Fiscal policy of the Govt. • Excess Capital

  9. Consequences of the Over-Capitalization • Effects on the company • Effects on shareholders • Effects on Society

  10. Remedies for Over-Capitalization • Reduction in Bonded Debt • Reduction in the Rate of Interest of Debentures • Redemption of High Dividend Preferred Stock • Reduction in par value of shares • Reduction in the Number of shares • Ploughing Back of Profits

  11. Under Capitalization Bonneville and Dewey says “Under Capitalization is not an economic problem but a problem in adjusting the capital structure.”

  12. Causes of Under Capitalization • Under estimation of earnings • Use of high capitalization rate • Promotion of company during Deflation • Under estimation of capital requirements • Conservative dividend policy • High standard of efficiency • Low promotion expenses

  13. Effects of Under Capitalization • Effects on the company • Effects on the shareholders • Effects on society

  14. Remedies for Under-Capitalization • Issue of bonus shares • Splitting of shares

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