TYPES OF CAPITAL.ppt

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TYPES OF CAPITAL

Gayatri Mohanty

Asst. Professor

Dr. J K Patel Institute of Management



Types of Capital

Basically two types of securities for raisingcapital:

Shares

-Equity Shares

-Preference Shares

Debentures

Long term capital can also be obtainedthrough term loans or borrowings throughbanks and financial institutions.



EQUITY SHARES

Also called ordinary shares or common shares

They represent the ownership position in acompany

Source of permanent capital

Entitled to dividends

Variable income security

Ownership risks

claims on incomeclaims on assets



EQUITY SHARES

Authorized capital: Maximum amount of capitalwhich a company can raise from shareholders.The authorized capital can be changed byaltering the MoA.

Issued capital: That portion of the authorizedcapital which have been offered to theshareholders.

Subscribed share capital: That part of the issuedshare capital which have been accepted by theshareholders.



EQUITY SHARES

Paid up share capital: The part of

subscribed capital which have been

actually paid up by the shareholders of the

company.

Issue Price = Par Value + Share Premium

Share premium: Any amount in excess of

the par value of an equity share is called

the share premium.



Net Worth of Equity Shares

Net Worth comprises of:

Paid up share capital Share premium

Reserves & Surplus (undistributed profits of the company

which ultimately belong to the equity shareholders)

Therefore,Book value per share = net worth

number of ordinary shares

Book value and market value of a share are two different

things Book value of a share is based on historical data whereas market

value of a share is based on the demand and supply of the share in

the stock market. It is based on expectations about the performance

of the economy in general and the company in particular



Features of Equity Shares

Residual claim on incomeDividends

Retained earnings

Claim on assets

Dividend paid on equity shares is not tax-deductible Right to control

Voting rights (in person or proxy votes)

Election of directors

Alteration of MoA of the company

Pre-emptive rights (right to maintain proportionate share

in ownership-rights issue, right during FPO)

Limited liability (once share is fully paid-up)



Advantages of Equity Shares

(From company point of view)

Permanent capital

Borrowing base

Dividend payment discretion



Disadvantages of Equity Shares

(From company point of view)

Cost

- dividends are not tax-deductible

- high floatation costsRisk (for investor and hence a higher

return expectation)

Earnings dilutionOwnership dilution



PREFERNCE SHARES

It is also called Hybrid Secur i ty as it hascombined features of equity shares anddebentures.

Similarity to Equity Shares:

Non payment of dividends doesn’t force thecompany to insolvency

Dividends paid on preference shares are nottax-deductible

In certain cases preference shares have nomaturity



PREFERNCE SHARES…

Similarity to Debentures:

Rate of dividend is fixed

No share in residual earningsClaim on assets and income prior to equity

shareholders

Usually do not have voting rights



Features of Preference Shares

Claims on assets and income (senior security)

Fixed dividend (but not legally binding, fixed incomesecurity)

Cumulative dividends

Redemption (Redeemable & Irredeemable preference

shares) Sinking fund

Call feature (buy-back of preference shares at callpremium)

Participation feature (in extraordinary profits and insome cases with voting rights)

Voting rights (Contingent Voting Rights)

Convertibility (Convertible & Non-convertible

preference shares)



Advantages of Preference Shares

Risk less leverage

Dividend postponability (financial flexibility)

Fixed dividends (no participation in extraordinary profits)

Limited voting rights



Disadvantages of Preference Shares

Non tax-deductibility of dividends from tax

(costlier than debentures)

Commitment to pay dividends

Substantial cash outflows during

redemption



DEBENTURES

It is a long term promissory note for raising

loan capital. The firm promises to pay the

periodic interest and principal upon

maturity as specified. The rate of intereston debentures is fixed and it is legally

binding on the company to pay interest on

debentures.Public sector debentures in India are also

called bonds.



Features of Debentures

Interest rate (coupon rate)legally binding

tax – deductible

Maturity

Sinking fund

Buy-back (call) provision

Indenture (Debenture Trust Deed)

Security and Credit Rating (secured or unsecured debentures)

Yield (Current Yield, Yield to Maturity)

Priority in claims on income and assets



Types of Debentures

Non-convertible Debentures (Pure

Debentures)

Convertible DebenturesFully Convertible Debentures

Partly Convertible Debentures

Zero-coupon Bonds (Deep Discount

Bonds)



Advantages of Debentures

Less costlylow expected rate of return

interest on debentures are tax-deductible

No ownership dilution

Fixed payments of interest means no

claims on extraordinary profits

Reduced real obligation during times of high inflation



Disadvantages of Debentures

Obligatory payments

Financial risks ( for firms with seasonal

business)

Cash outflows

Restrictive covenants



TERM LOANS

It is a source of long term capital for

companies wherein a debt in the form of

loan is obtained from a bank or financial

institutions.

Term loans are generally obtained for

expansion, modernization or diversification

projects. So, they are often referred to asProject Financing.



Features of Term Loans

Fixed and long term maturity

Direct negotiation

Security

Asset-related covenants (credit-worthiness)

Liability-related covenants (restrictions on further heavy borrowings)

Cash flow related covenants (restrictions on too

much cash outflows)Control related covenants

Convertibility



Depository Receipts A deposito ry receipt (DR) is a type of negotiable (transferable)

financial security that is traded on a local stock exchange but

represents a security, usually in the form of equity, that is issuedby a foreign publicly listed company. The DR, which is a physical

certificate, allows investors to hold shares in equity of other

countries.

Depository receipts are an indirect way of raising equity capital

from foreign markets. An Indian company can issue AmericanDepository Receipts in USA and raise capital there.

On the other hand if an American investor wants to invest in the

shares of an Indian company he can do so with ADRs.

The ADR investor holds privileges like those granted toshareholders of ordinary shares, such as voting rights and cash

dividends. The rights of the ADR holder are stated on the ADR

certificate.

The Indian firms can also issue GDRs in many other companies.

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