Authorized capital is the highest number of shares a company can issue, based on its corporate rules or legal documents. Think of it as a cap on the number of shares the company can distribute to investors. Authorized capital is only sometimes entirely issued at once; companies often hold back shares for future needs like raising capital or retaining business control.

For example, a company might be authorized to issue one million shares but only choose to release 100,000. The rest remain in the company’s treasury, ready for future opportunities. This flexibility is crucial, especially for startups or growing companies needing more investors.

Key Terms to Know About Authorized Capital

Understanding authorized capital is easier if you also know some related terms:

• Authorized Share Capital is the broadest term. It refers to the maximum number of shares a company can issue according to its legal documents.
• Subscribed Capital: These are shares that investors, such as banks or institutions, have agreed to buy, often during the company’s initial public offering (IPO). These shares are part of the authorized capital but not the entire amount.
• Paid-Up Capital: Paid-up capital refers to shares investors have fully paid for. Once paid, these shares become part of the company’s capital base. It’s important to note that the company generates less paid-up capital if these investors sell their shares on the secondary market. The proceeds go to the seller, not the company.
• Issued Capital: Issued capital is the portion of shares given to investors, including the public, institutional investors, or company insiders. These are also called “outstanding shares.”

Why Companies Don’t Issue All Their Authorized Shares

It might seem strange for a company to have more authorized shares than what it has issued, but there’s a good reason for this. Keeping a portion of shares unissued gives the company flexibility. It lets the company raise money fast without asking shareholders for approval each time.

For instance, startups often initially issue a small fraction of their authorized shares. This strategy helps them avoid unnecessary hurdles in raising more capital as they grow and keeps decision-making simple. With shares left in reserve, a company can attract new investors or employees by offering stock options without diluting existing shares or needing frequent shareholder votes.

How Companies Change Authorized Capital

It authorized capital change for a while. It can be increased, but only with shareholder approval. For example, if a company runs out of shares to issue but needs to raise more money, it can ask shareholders to approve an increase in the number of authorized shares. It can happen during stock splits or other actions to raise capital.

While a company’s issued capital (the shares actually in investors’ hands) can fluctuate as the company issues new shares or buys them back, the total authorized capital stays the same unless shareholders approve a change.

Real-World Example of Authorized Share Capital

Suppose a startup company with one million authorized shares at a par value of $1 each. That means the company has $1 million in authorized share capital. However, the company only issues 100,000 shares, meaning it still has 900,000 in its treasury.

It might seem like the company is leaving money on the table, but it’s brilliant. By keeping authorized capital high but issuing only a small portion, the startup has room for future fundraising rounds. It lets the company raise more money as it grows without needing quick approval from shareholders.

On the other hand, mature companies often have fewer outstanding shares compared to their authorized share capital. These companies can use their extra funds to buy back shares, which boosts the value of the remaining shares by lowering the number available on the market.

Public Companies and Authorized Share Capital Rules

Stock exchanges often have minimum requirements for authorized share capital. For example, the London Stock Exchange (LSE) requires public limited companies to have at least £30 million of authorized capital to be listed. It ensures that companies have enough financial structure to meet market standards.

Authorized share capital is necessary for public companies because it shows investors the company has room to grow or adapt to market changes. Holding back some shares allows companies to take advantage of future financing opportunities without scrambling for shareholder approval.

Benefits of Holding Back Authorized Shares

Why do companies choose to leave some of their authorized shares unissued? It’s a strategic move to prepare for the future. By holding back shares, companies maintain flexibility in raising funds, offering employee stock options, or keeping a controlling interest in the company.

This approach is especially valuable for startups. It lets them attract new investors or raise funds without having to jump through legal hoops or seek constant approval from shareholders. Larger companies also use this strategy to stay agile and ready for opportunities that might come up later.

How Startups Use Authorized Share Capital

Startups typically issue only a fraction of their authorized capital in the beginning. They want to keep plenty of shares available for future investors. By keeping authorized capital high, they leave room for growth, enabling them to attract more investors or conduct additional rounds of fundraising without repeatedly seeking approval from shareholders.

It also makes it easier for startups to attract talent by offering stock options as part of employee compensation, which could become more valuable as the company grows.

FAQs

What is authorized share capital?

Authorized share capital is the highest number of shares a company can legally issue, as stated in its articles of incorporation.

Can you authorize a share capital change?

Yes, shareholders can approve an increase in authorized capital. It doesn’t change automatically when more shares are issued.

Why don’t companies issue all their authorized shares at once?

Companies hold back shares to maintain flexibility for future capital raising, strategic growth, and retaining control over the business.

What’s the difference between authorized and issued capital?

Authorized capital is the total number of shares a company can issue, while issued capital refers to the shares already given to investors.

How does authorized capital benefit startups?

Startups often keep authorized capital high but issue only a small portion, allowing them to raise more money or bring in new investors later without shareholder approval.