Equity Share Capital: Types & Advantages

The act of obtaining financing is an essential choice for a business when it seeks to develop. As a business expands its activities, launches new products, or pursues new business opportunities, it cannot do so without the necessary funding. One of the most popular methods of obtaining long-term finance is through equity financing. 

In the case that a corporation sells equity, it gives its stake in the business to the investors, which means that it will be able to raise capital without incurring new debt, as it would be required to do to borrow money. Thus, for the investors, equity shares mean that they are entitled to enjoy the success of the company and its benefits associated with it. 

In this article, we will elaborate on equity share capital, the motives behind it, the types, advantages, disadvantages, and similarities differences with debt capital.

Introduction to Equity Share Capital

Equity share capital means the capital raised by the firm through the sale of ordinary shares. Equity capital forms an integral part of the ownership structure of a company as shown on the balance sheet under the head of shareholders' equity.

Equity capital is different from loan capital in that it does not involve the payment of fixed interest or repayment of principal in the specified period of time. The investors become the owners of the company and have the right to share in its growth.

For public companies, equity capital means the number of shares available for trading in the stock market.

What is Equity Share Capital?

Equity share capital represents the entire sum of money that an organization ends up receiving because of the process of issuing equity shares.

Every equity shareholder is entitled to a partial ownership of the company, whereby the more equity shares a person possesses, the more ownership he has in the company.

For example:

Suppose a company issues 10 lakh equity shares with a face value of ₹10 each.

• Number of Shares: 10,00,000
• Face Value per Share: ₹10

The company's equity share capital would be:

10,00,000×₹10=₹1,00,00,00010,00,000 \times ₹10 = ₹1,00,00,00010,00,000×₹10=₹1,00,00,000

This capital becomes part of the company's long-term funding and supports business operations and expansion.

If you're new to investing, you can also explore our guide on Equity Shares to understand how ownership works in the stock market.

Why Do Companies Issue Equity Shares?

There are many other reasons, apart from fundraising, why firms issue equity shares.

Fund Growth

Firms issue equity shares to fund their growth in terms of launching new projects, setting up more units, and even expanding to new areas.

Decrease Dependency on Loans

Rather than raising loans from banks, firms can get money without taking interest liability.

Enhance Financial Strengths

Stronger financial strength can help them plan for their future growth and success.

Raise Money through Initial Public Offering

When firms float their IPOs, they issue equity shares to the public to raise money.

Long-Term Funding

Long-term funding needs for projects like infrastructure, technology, and manufacturing can be solved through equity financing.

Types of Equity Share Capital

Equity share capital is divided into various forms depending on the capital structure of a business entity.

Authorised Share Capital

It is the total maximum amount of share capital that can be issued by an organization as per the Memorandum of Association.

Issued Share Capital

The issued share capital is that part of authorized capital which a business entity issues to its investors.

Subscribed Share Capital

It is the total portion of issued shares which the investors subscribe to.

Paid-up Share Capital

Paid-up share capital is the actual amount paid by the investors for subscribing their shares in a business entity.

These classifications provide the investors with an idea about the authorized and paid up capital of an organization.

For a more detailed explanation of these categories and their characteristics, you can read our guide on Features of Equity Share Capital.

Advantages of Equity Share Capital

There are various advantages that both the organizations as well as investors gain from equity financing.

No Repayment Requirement

Contrary to loans, equity capital does not have any obligation regarding repayment of the principal amount.

No Interest Obligation

Organisations do not need to pay fixed interest amounts which makes it financially flexible for them.

Long-Term Financing

This form of funding is usually used for making long-term investments in businesses.

Financial Stability

Having a level of equity capital will help organizations cope with the economic uncertainties.

Participating in Company Growth for Investors

Investors can take part in the growth of the company either through dividends or votes.

Disadvantages of Equity Share Capital

In spite of all the above advantages, there are some drawbacks of equity finance.

Dilution of Ownership

Additional share issuance decreases the proportion of ownership of the present owners.

Expectation for Dividends

Even though it is not required to distribute dividends, the owners can expect the same based on their performance.

Market Scrutiny

For companies listed on the stock exchange, increased investor and market scrutiny is common.

More Stringent Regulations

After going public, many companies are required to abide by certain rules and regulations.

Decision Making

The number of shareholders may play a role in some decision making within an organisation.

Equity Share Capital vs Debt Capital

Both equity and debt help companies raise funds, but they work differently.

Companies often use a combination of equity and debt to maintain a balanced capital structure.

How Investors Evaluate Equity Share Capital

Share capital is normally analyzed by investors along with other financial measurements in determining the financial standing of the organization.

Factors which are normally considered are:

• Paid-up share capital
• Shares outstanding
• Earnings per share (EPS)
• Return on equity (ROE)
• Book value per share
• Market capitalisation

A more comprehensive view can be gained through an analysis of these factors rather than focusing only on share capital.

Conclusion

Equity share capital is one of the means by which corporations can obtain long-term funding and, at the same time, allow investors to get involved in the development of the organization. This form of financing gives organizations more financial freedom as it does not entail any repayment or interest payments on the borrowed money.

If you are studying a publicly quoted corporation or corporate finance in general, then learning about authorised, issued, subscribed, and paid-up share capital will be beneficial for you.