Authorized capital: Overview, definition, and example
What is authorized capital?
Authorized capital refers to the maximum amount of capital that a company is legally allowed to raise through the issuance of shares, as specified in its corporate charter or articles of incorporation. It represents the upper limit of the number of shares the company can issue to investors without needing to amend its governing documents. Authorized capital is an important concept for shareholders, investors, and regulators because it sets boundaries on how much capital the company can raise by issuing new stock. However, it's important to note that authorized capital does not mean that the company must issue all of these shares at once. The company can choose to issue fewer shares and leave some of the authorized capital unissued.
Why is authorized capital important?
Authorized capital is important because it provides a clear framework for how much capital a company can raise through the issuance of shares, ensuring that shareholders have a sense of how much equity may be diluted if the company decides to issue additional stock. For investors, knowing the authorized capital gives insight into the company’s growth potential and how the company might raise funds in the future. For the company, authorized capital provides flexibility—allowing them to issue more shares if needed for financing, acquisitions, or other corporate purposes—without needing immediate approval from shareholders. It also sets a limit on the amount of equity dilution that can occur.
Understanding authorized capital through an example
For example, a startup company is incorporated with an authorized capital of $1,000,000, represented by 1,000,000 shares with a nominal value of $1 each. Initially, the company issues 500,000 shares to investors to raise $500,000 in capital, but the remaining 500,000 shares are left unissued. This means the company can still issue up to an additional 500,000 shares in the future without needing to amend its articles of incorporation, as long as it does not exceed the total authorized capital.
In another example, a public company has authorized capital of 10 million shares, but it has only issued 7 million shares to date. The remaining 3 million shares are still available for the company to issue as needed, for example, to raise capital for new projects or acquisitions. If the company decides to issue more shares in the future, the additional issuance will dilute the existing shareholders' equity but will raise new funds for the company.
An example of an authorized capital clause
Here’s how an authorized capital clause might appear in a company's articles of incorporation or shareholder agreement:
“The total authorized capital of the Corporation shall be $10,000,000, represented by 10,000,000 shares of common stock with a nominal value of $1 per share. The Corporation is authorized to issue up to the full amount of authorized capital as needed, subject to the approval of the Board of Directors and any applicable regulatory requirements.”
Conclusion
Authorized capital defines the maximum number of shares a company can issue and sets the upper limit for how much capital it can raise through stock offerings. While it does not obligate the company to issue all of its authorized shares, it provides a framework for shareholders and investors to understand the company’s potential for future capital raising and the possibility of equity dilution. Understanding authorized capital is crucial for managing shareholder interests and making informed investment decisions.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.