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What are the effects of over capitalization?
1-On Shareholders- The over capitalized companies have following disadvantages to shareholders:
A-Since the profitability decreases, the rate of earning of shareholders also decreases.
B-The market price of shares goes down because of low profitability.
C-The profitability going down has an effect on the shareholders. Their earnings become uncertain.
D-With the decline in goodwill of the company, share prices decline. As a result shares cannot be marketed in capital market.
2-On Company-
A-Because of low profitability, reputation of company is lowered.
B-The company’s shares cannot be easily marketed.
D-With the decline of earnings of company, goodwill of the company declines and the result is fresh borrowings are difficult to be made because of loss of credibility.
E-In order to retain the company’s image, the company indulges in malpractices like manipulation of accounts to show high earnings.
F-The company cuts down it’s expenditure on maintainance, replacement of assets, adequate depreciation, etc.
3-On Public- An overcapitalized company has got many adverse effects on the public:
A-In order to cover up their earning capacity, the management indulges in tactics like increase in prices or decrease in quality.
B-Return on capital employed is low. This gives an impression to the public that their financial resources are not utilized properly.
C-Low earnings of the company affects the credibility of the company as the company is not able to pay it’s creditors on time.
D-It also has an effect on working conditions and payment of wages and salaries also lessen.