chapter = 9 capitalization. gerstenberg says “for all practical purposes capitalization sometimes...
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Chapter = 9
Capitalization
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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.
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Difference CapitalizationCapitalization in business is meant by the total amount of capital
invested which include share capital, debt capital and reserves and surplus.
CapitalCapital means the net worth of a business. Capital structureCapital structure means the mutual relationship among the long-term
sources of capital which include owned capital, preference share capital and long term loans.
Financial structureThe financial structure means the composition of liability side of balance
sheet.
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Theories of Capitalization
Cost theory of CapitalizationCapitalized value of Earnings theory
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Types of Capitalization
Over CapitalizationUnder Capitalization
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Bonneville and Dewey says
“When a business is unable to earn a fair rate of return on its outstanding securities, it is over capitalized.”
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Real value of Total Assets < Book value of Total Assets
Par value of sharesMarket value of sharesBook value of shares Real value of shares
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Causes of Over CapitalizationPromotion of the company with inflated assetsHigh promotion expensesOver estimating earnings at the time of promotion Capitalising earnings at lower ratesFormation or expansion of the company during inflationary
periodShortage of capitalDefective depreciation policyLiberal dividend policyFiscal policy of the Govt.Excess Capital
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Consequences of the Over-Capitalization
Effects on the companyEffects on shareholdersEffects on Society
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Remedies for Over-Capitalization
Reduction in Bonded DebtReduction in the Rate of Interest of
DebenturesRedemption of High Dividend Preferred StockReduction in par value of sharesReduction in the Number of sharesPloughing Back of Profits
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Under Capitalization
Bonneville and Dewey says“Under Capitalization is not an economic
problem but a problem in adjusting the capital structure.”
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Causes of Under Capitalization
Under estimation of earningsUse of high capitalization ratePromotion of company during DeflationUnder estimation of capital requirementsConservative dividend policyHigh standard of efficiencyLow promotion expenses
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Effects of Under Capitalization
Effects on the companyEffects on the shareholdersEffects on society
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Remedies for Under-Capitalization
Issue of bonus sharesSplitting of shares