Meaning of Capitalisation... Need of Capitalisation

The capital structure or the capitalisation of an undertaking refers to the way in which it's long term obligations are distributed between different classes of owners and creditors. It is a plan of a company finance by which it seeks to determine the amount of capital necessary for company promotion and management and to utilize the needed fund in different sources from which it is to be raised.

                    The concept of Capitalisation means the process building up a capital structure and tapping the sources to mobilize the capital in the form of shares, bonds loans or reserves etc.

                    Hence capitalisation include two aspects:

(a) Formation of capital structure.

(b) Determination of the sources of capital supply.

          It involves one of the most difficult task on the part of promoters,since the estimate of capital requirement is dependent on certain factors unforcing contingent of a concern. The term Capitalisation is used only in relation to companies and not in respect of firm or sole proprietorship.

The different interpretation of Capitalisation are:

(a) Narrow interpretation of Capitalisation:

According to this view, capitalisation means the process of determining the amount of long term funds required to promote or run its business.

(b) Broader interpretation: 

According to this view the term Capitalisation is synoniness with financial planning. Hence it may be rightly remarked, that capitalisation refers to the process of determining the pattern of financing. It includes not merely the determination of quantity of finance required for the company but also the decision about the long quality of financial.

(c) Traditional concept of Capitalisation:

According to this concept, capitalisation of the firm is the sum of capital raised through long term securities and surplus. Thus, it comprises share capital, reserves, and surplus and long term debts.

(d) Modern concept of Capitalisation:

According to this concept, capitalisation should comprise all sources of capital which are employed to raise desired amount of capital for a firm. Thus, the sources of Capitalisation are: 

(i) share capital that equity and preference share capital.

(ii) Free reserves and surplus

(iii) Long term debts that debentures bonds, loans, etc

(iv) Short term loan including bank overdraft, cash, credit,etc.

(v) Trade creditors

Definition of Capitalisation

According to Prof. Bonneville and Dewey, "Capitalisation is the balance sheet values of stocks and bonds outstanding."

According to Prof. Cruthman and Dougall, "Capitalisation is the sum of the par value of stocks and bonds outstanding"".

According to Prof. Limeolm,  "Capitalisation is a word ordinarily used to refer to the sum of the outstanding stocks and funded obligations, which may represent wholly fictitious values."

According to Prof. Deuling, " The term Capitalisation or the valuation of the capital includes the capital stocks and debts.

          From the above analysis we can conclude that capitalisation is the sum total of long term securities issued by a company and the surplus not meant for distribution. Thus it comprises: 

(i) The value of shares of different classes that ordinary shares and preference shares.

(ii) The value of all surplus whether earned surplus or capital.

(iii) The value of bonds and securities issued by a companies still not redemmed.

(iv) The value of long term loans secured by the company other than bonds and securities.

Need of Capitalisation

According to few, the problem of Capitalisation arises only at the time of promotion of a company. But it is not so. The problem may arise at the time after the promotion and during the lifetime of the corporation. Generally, the capitalisation arises in the following circumstances.

(i) At the time of incorporation of a company.

(ii) At the time of expansion of the existing corporation.

(iii) At the time of recapitalisation and reorganization of Capital.

(iv) At the time of amalgamation and absobtion of two concerns.