Edited by Sarah Owoeye and Toluwalase Solanke
Lesson Objectives
By the end of the lesson, students should be able to:
- Define shares and capital.
- Identify and explain the types of shares, types of capital.
- Explain the methods and problems of raising capital.
Table of Contents
Shares
A share is a unit of ownership in a company that represents a portion of the company’s capital. When an individual buys shares, they become a shareholder. This means they are part-owners of the business and are entitled to certain rights such as receiving a share of the company’s profits in the form of dividends, and participating in decision-making through voting at general meetings.
The value of a share reflects the worth of the company divided into equal parts, and the number of shares a person holds determines the extent of their ownership and influence in the company.
Types Of Shares
1. Ordinary Shares
Ordinary shares are the most common type of shares issued by a company. Holders of ordinary shares are the true owners of the company and usually have the right to vote at company meetings. They receive dividends, but the amount depends on the company’s profits after all expenses and other claims have been settled. This means their returns may be high in good years but lower or even zero in poor years. Ordinary shareholders also have the right to share in the company’s assets if it closes down, after all debts are paid.
2. Preference Shares
Preference shares give their holders the right to receive a fixed dividend before ordinary shareholders are paid. This makes them less risky than ordinary shares. However, preference shareholders usually do not have voting rights in the company. Their advantage is the security of a fixed return, but they miss out on higher profits if the company earns more than expected. In the event of liquidation, preference shareholders are paid before ordinary shareholders but after the company’s creditors.
3. Deferred Shares
Deferred shares are usually held by company founders or directors and are paid dividends only after ordinary and preference shareholders have been paid in full. This means they bear a greater risk because they are the last to receive payment, but they may benefit from larger profits once all other claims are settled. Deferred shareholders often have significant control over the company since these shares are mostly issued to key decision-makers.
4. Cumulative Preference Shares
Cumulative preference shares ensure that if the company cannot pay dividends in a particular year, the unpaid dividends are carried forwards to future years. This means holders will eventually receive all their entitled payments once the company can afford it. This offers more security to investors because their returns are guaranteed over time, even if delayed, making this type popular among conservative investors.
5. Non-Cumulative Preference Shares
Non-cumulative preference shares pay a fixed dividend only if the company makes enough profit in that year. If the company cannot pay dividends in a given year, the unpaid amount is not carried forwards to the next year. This means holders may lose dividends in bad years. While less secure than cumulative preference shares, they can still offer consistent income in stable, profitable companies.
Capital
Capital is the total wealth in the form of money, assets, or other resources invested in a business to start, operate, and expand its activities. It includes funds provided by the owners, borrowed money, and physical assets like buildings, machinery, and equipment, which are used to produce goods and services. Capital serves as the foundation of any business, enabling it to acquire resources, maintain operations, and pursue growth opportunities.
Types Of Capital
1. Fixed Capital
Fixed capital refers to the long-term assets a business uses to produce goods and services. These assets are not meant for sale but are essential for production and operations. Examples include buildings, machinery, vehicles, tools, and computers. Fixed capital is usually expensive to acquire and is used over many years. It does not change form during production. For instance, a bakery’s oven is used to bake bread repeatedly without being sold as part of the bread.
2. Working Capital
Working capital is the money or resources available for the daily running of a business. It is calculated as the difference between current assets (like cash, raw materials, and finished goods) and current liabilities (like short-term debts). Having enough working capital ensures that a business can pay wages, buy raw materials, and cover day-to-day expenses without running into financial problems. For example, a shopkeeper uses working capital to stock goods and pay electricity bills.
3. Loan Capital
Loan capital refers to the money a business borrows from banks, financial institutions, or individuals to finance its operations. This capital must be repaid, often with interest, within an agreed time. Loan capital can be used for expansion, purchasing new equipment, or covering temporary shortages in funds. For instance, a manufacturing company may take a loan to buy new production machines. While useful, loan capital creates a debt obligation for the business.
4. Owned Capital
Owned capital is the money invested in a business by its owners or shareholders. This type of capital represents the owner’s stake in the company and does not have to be repaid. It often comes from the sale of shares or personal savings. Owned capital gives the owner(s) control over the business and a claim to its profits. For example, when a person uses their own savings to start a small retail store, they are using owned capital.
5. Authorised Capital
Authorised capital is the maximum amount of shared capital that a company is allowed to raise, as stated in its constitution (Memorandum of Association). This limit is set when the company is formed and can only be increased with legal approval. Authorised capital shows the upper boundary of a company’s ability to issue shares. For example, if a company has an authorised capital of ₦50 million, it cannot sell shares worth more than that unless it officially changes the limit.
6. Issued Capital
Issued capital is the portion of authorised capital that the company has actually offered to shareholders for purchase. A company may not issue all its authorised capital at once. For instance, if a company has an authorised capital of ₦50 million but offers shares worth ₦30 million to the public, then ₦30 million is its issued capital. Issued capital shows how much of the company’s maximum capital has been put into circulation.
7. Paid-Up Capital
Paid-up capital is the amount of issued capital that shareholders have fully paid for. It represents the actual funds received by the company from the sale of its shares. For example, if a company issues shares worth ₦30 million but has only received ₦25 million from shareholders so far, then its paid-up capital is ₦25 million. Paid-up capital is important because it is the money the company can immediately use for its operations.
Methods Of Raising Capital
1. Selling Shares to the Public
A company can raise capital by offering parts of its ownership, called shares, for sale to the public. People who buy these shares become shareholders and part-owners of the company. The money received from selling shares is used to finance the company’s activities. This method is common for large companies listed on the stock exchange because it allows them to get funds from many investors at once.
2. Issuing Debentures
A company may borrow money from the public by selling debentures, which are long-term loan certificates. Debenture holders are creditors, not owners, and they receive a fixed interest every year, whether or not the company makes a profit. This method is suitable for companies that want to raise funds without giving away ownership rights.
3. Taking Bank Loans
Businesses can borrow money directly from banks or other financial institutions. The bank provides a lump sum that the business must repay with interest over an agreed period. Bank loans are a quick way to raise funds, but they require collateral and may be difficult to get if the company has a poor credit history.
4. Retaining Profits (Ploughing Back Earnings)
Instead of paying all profits to shareholders as dividends, a company may keep some of its profits and reinvest them in the business. This method, called retained earnings or ploughing back profits, does not require borrowing or selling ownership, but it depends on the company making enough profit in the first place.
5. Seeking Government Grants
In some cases, the government gives money to businesses to encourage growth in certain industries, such as agriculture or manufacturing. These funds are called grants and usually do not have to be repaid. However, they may come with conditions that the company must follow.
6. Issuing Bonds
A company can also raise capital by selling bonds, which are similar to debentures but can be issued by both companies and governments. Bondholders lend money to the company and receive interest at fixed intervals. Bonds are attractive to investors who want a steady and predictable income with less risk than shares.
Problems Of Raising Capital
1. Lack Of Collateral Security For Loans
When a company or business needs to borrow money, banks and other lenders usually require collateral — property or assets that can be seized if the loan is not repaid. If the business does not have valuable assets to offer as security, it becomes very difficult to obtain loans. This is a major challenge for new or small businesses that do not yet own land, buildings, or expensive equipment.
2. Poor Credit History
Before giving out loans, financial institutions check the borrowing history of the business or its owners. If the company has defaulted on past loans or has unpaid debts, lenders may consider it a high-risk borrower. Even if the business is doing well at present, a bad credit record can discourage investors and banks from providing capital.
3. Small Market Size Discouraging Investors
Businesses that serve a very small or local market often find it hard to attract investors. This is because investors prefer companies with the potential to grow and make large profits. If the business operates in an area where there are few customers, or the product has limited demand, it may be seen as less profitable, and raising capital becomes a struggle.
4. Economic Instability
When the economy of a country is unstable — due to inflation, currency fluctuations, political unrest, or frequent changes in government policy — investors and banks become more cautious. They may avoid lending or investing because they fear that the value of their money or returns will be reduced. Economic instability therefore makes raising capital more risky and uncertain.
5. Government Regulations
Sometimes, strict laws and regulations make it harder for companies to raise capital. For example, there may be complex licensing requirements, high taxes on profits, or limits on foreign investment. These rules, while often meant to protect the economy, can discourage potential investors or delay the process of securing funds.
Final Thoughts
A share is a unit of ownership in a company, giving the holder part-ownership and a right to dividends. Types of shares include ordinary shares, preference shares, deferred shares, cumulative preference shares, and non-cumulative preference shares.
Capital is the money or assets invested in a business to start and operate it. Types of capital include fixed capital, working capital, loan capital, owned capital, authorised capital, issued capital, and paid-up capital.
Methods of raising capital include selling shares, issuing debentures, taking bank loans, retaining profits, government grants, and issuing bonds. Problems of raising capital include lack of collateral, poor credit history, small market size, economic instability, and strict regulations.
Tags
Shares
Shareholder
Ordinary Shares
Preference Shares
Deferred Shares
Cumulative Preference Shares
Non-Cumulative Preference Shares
Capital
Fixed Capital
Working Capital
Loan Capital
Owned Capital
Authorised Capital
Issued Capital
Paid-up Capital
Methods of Raising Capital
Retained Profits
Government Grants
Bonds
Problems of Raising Capital
Collateral
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