Many beginners ask me that what is share capital and how a company is formed, so here is a short  explanation  to that.  Company can have Equity Shares, Preference Shares and or  Differential Voting Rights Equity shares  as its Share Capital. 

Share Capital  denotes to the amount of capital raised by the issue of shares (viz Equity, Preference, DVR or all of them), by a company. It is collected through the issue of shares and remains with the company till its liquidation. Share Capital is owned capital of the company, since it is the money of the shareholders & amp so these share holders are the owners of the company. The total share capital is divided into small parts & amp each part is called a 'SHARE'. Share is the smallest part of the total capital of company. 

In India, Share holding of 51% in a company is considered as a controlled holding.  Any company willing to go public or willing to have an IPO has to  maintain at least 10% of its total issued shares with the general public.  Recently SEBI have extended the deadline for all the companies in India to maintain at least 25% of their total issued shares with the general public. So, it means promoters cannot hold more than 75% of the total issued shares in a company. 25% public shareholding is must.

Types of SHARE CAPITAL : 

Authorized Capital -  The maximum amount of capital which a company can collect or raise by selling its shares, it is also known as Nominal Capital or Registered Capital.  Issued Capital -  Is the part of the Authorized capital which is actually issued to general public.  Subscribed Capital -  Is the part of the issued capital which is actually subscribed by the general public.  Paid Up Capital -  Is that part of the called up capital which is actually paid up by the shareholders. Now in general companies are not in  practice  to have partly paid up or call up money. The Company takes full face value money on the issue. So fully paid up Face value is the Paid Up Capital of the Company.

What is Share Capital Base :

When I form a company, I use my personal wealth as Capital i.e. I invest my own money into the company and into the business activities. In the process of forming & amp registering a new company under the Companies Act 1966 it needs to be  Capitalized  whereby I infuse money or assets into the company and get shares of that company in return. e.g. If I infuse Rs. 5000 or assets worth Rs. 5000 to form a company , I will be getting Shares worth Rs. 5000 of that newly formed company & amp so I become the promoter of the company.  Capitalization is the process in which owners have to come with number of shares and its face value.

Here in India, per share value used is Rs. 10 , Rs. 5, Rs. 2, Re. 1 as its face value   which is then multiplied by number of shares issued or divided by total invested money.  Let’s take some example –  In my company I invest Rs. 5,000 - Thus the capitalization of my company is as follows –

This is also the VALUE of business because it is still not generating any profits or it is still not established etc. I will use the  second scenario  for the further discussion which is in usual practice. To increase the value of my company,  I work hard and increase the value of my company by branding, marketing, market positioning, revenue, profits, future potential, and market share. I keep all the profits as I am the only share holder having all the company's paid up equity capital and so my business has high net-worth. The total earnings of my company are divided by 500 shares. So the company’s Earnings Per Share (EPS) is based on 500 shares that are issued to me.

Remember, according to my  authorized  capital, I still have 100 shares of Rs. 10 face value more remaining to be issued. They are not yet issued or not been paid up & amp hence  authorized  capital is not considered while calculating EPS - its just taken as a note.

Going forward, at some point in the future, I feel that I am in need of more money or capital for the expansion or I want to grow my business – I have 2 ways – either I can go to banks or   go to other sources of finance or I forgo a little bit of my equity holdings.

If I go to banks which are loans/debts taken from banks – then I have to pay Interest which under all circumstances I have to pay. And, If I issue shares i.e. I forgo a little bit of my equity holding then in this case I don’t have to pay interest to them (my new shareholders) nor its compulsory to declare dividends, but I have to share my profits, losses and even bankruptcy with my new shareholders.

                      So I decide to go for raising capital by diluting the equity i.e. I am taking additional partners by issuing them new shares. These partners can be Private Equity players, financial institutions or any public investor (if it is opened to common public which is called IPO) which will be my new shareholders.  During this course of time, the value of my business has raised much more than Rs. 6,000 as it is now an established business making lots of good profit and with lots of potential & amp whoever wishes to become partner or stakeholder will be getting partial ownership of the well established profitable business with minimum risk and so I will be demanding Premium on the face value of Rs.10 from my new shareholders, this premium will be as per the present value of the business.

How to determine Present Value – 

For example – Consider that the present value of the business comes to Rs. 1,20,000. With this increased value of the business, the market value per share will be Rs. 200/share. (Rs.1,20,000/600 shares).  I decide to issue 50 share from remaining 100 shares to go public. I use public offering (IPO) & amp price my share at Rs. 200/sh. I raise Rs.10,000 (50 x Rs. 200). Now, the capital structure is as under –

Share premium is considered as part of total shareholders’ equity. Additional money beyond face value is called Share Premium. Total Shareholder's Equity is also known as Net-worth or Stockholders Equity or Shareholders Fund or Share Capital.

            A company can also issue  Preference  shares or  DVR share  along with  Equity shares. Many beginners presume that Equity base is the IPO price x IPO shares, but the fact is that in IPO the owner is only opening partial ownership to raise additional capital for growing business. At this point the total earnings of the company is divided by 550 shares. Because now a total of 550 shares have been issued & amp issued subscribe & amp paid up equity has increased to 550 shares. Even though the mass public has only 50 shares, it is not the only shares in company, IPO shares are add on to existing 500 shares. 

Company issues lavish Bonuses of Shares before IPO -