Over capitalization is, “When securities within the firm are issued in extra of its capitalized incomes energy.” Over capitalization demoralizes fairness shareholders who’ve invested their financial savings in buying shares. They don’t earn dividends because the firm doesn’t earn sufficient income to be declared as dividends.
This state may additionally suggest scarcity of capital. It’s a scarcity of capital as a result of the mixture of par worth of shares and bonds excellent exceeds the worth of mounted property. The market worth of fairness shares finally declines.
9 Causes of Over Capitalization
1.) Over Problems with Shares: Attributable to poor planning, an organization points extra shares and debentures than it ought to. This outcomes to low earnings.
2.) Buying Property at Inflated Costs: If property are purchased at inflated costs, then it outcomes to low e book worth. The actual worth of property is low thus ensuing to low earnings per share.
3.) Growth Interval: When an organization is shaped throughout increase interval, then it experiences low earnings after the increase interval is over.
4.) Over Estimated Earnings: In the course of the promotion stage, the promoters and administrators might over estimate the earnings of the corporate thus elevating extra capital than required. This extra capital results in decrease earnings.
5.) Adoption of Liberal Dividend Coverage: If that is adopted, it causes low earnings in the long term. It outcomes to low e book worth in comparison with actual worth.
6.) Lack of Reserves: When an organization will not be making sufficient provisions for reserves, it outcomes to over capitalization. This occurs particularly if it distributes complete income as dividends to share holders.
7.) Heavy Promotion and Group Bills: When the bills incurred for promotion of the corporate corresponding to issuing and underwriting shares, promoter’s remuneration are very excessive in comparison with their advantages to the corporate, then this outcomes to over capitalization.
8.) Scarcity of Capital: If an organization has inadequate capital, it is pressured to boost further capital by means of loans at excessive rates of interest which ends up to low earnings.
9.) Taxation Coverage: Over capitalization happens when the coverage adopted by the federal government will not be honest. A small quantity of income is left to cater for depreciation and dividends. Its incomes capability is lowered because of excessive taxes.
Seven Methods of Overcoming Over Capitalization
1.) The effectivity and productiveness of human energy and different firm’s assets must be elevated. Their wastage must be prevented. This outcomes to elevated earnings.
2.) The corporate ought to plough again its income. This stabilizes the corporate’s earnings throughout troublesome moments.
3.) There must be a discount within the funded money owed by redeeming debentures and bonds in an effort to equalize the e book worth and the true worth.
4.) The rates of interest of bonds must be lowered to make sure adequate earnings of the corporate.
5.) If most popular shares are of excessive dividend, then they need to be redeemed.
6.) There must be a discount within the par worth of shares.
7.) The variety of fairness shares must be reduces.