Definition
Paid in capital refers to capital contributed to a corporation by investors through purchase of stock from the corporation. It includes share capital as well as additional paid-in capital.
Paid In Capital
What is ‘Paid In Capital’
Paid-in capital is the amount of capital “paid in” by investors during common or preferred stock issuances, including the par value of the shares themselves. Paid-in capital represents the funds raised by the business from equity, and not from ongoing operations.
Explaining ‘Paid In Capital’
Paid-in capital, also referred to as contributed capital, can be compared to additional paid-in capital, and the difference between the two values will equal the premium paid by investors over and above the par value of the shares. Preferred shares sometimes have par values that are more than marginal, but most common shares today have par values of just a few pennies. Because of this, “additional paid-in capital” tends to be representative of the total paid-in capital figure, and is sometimes shown by itself on the balance sheet.
Additional Paid-in Capital
For common stock, paid-in capital consists of a stock’s par value and additional paid-in capital, the amount of capital in excess of par or the premium paid by investors in return for the shares issued to them. Additional paid-in capital can provide a significant part of a company’s equity capital before retained earnings start accumulating and is an important capital layer of defense against potential business losses after retained earnings have shown a deficit. Short of the retirement of any shares, the account balance of paid-in capital, specifically the total par value and the amount of additional paid-in capital, should remain unchanged as a company carries on its business.
Paid-in Capital From Sale of Treasury Stock
Companies may buy back shares and return some capital to shareholders. The shares bought back are listed within the shareholders’ equity section at their purchase cost as treasury stock, a contra-equity account that reduces the total balance of shareholders’ equity. If the treasury stock is sold at above its purchase cost, the gain is credited to an account called paid-in capital from treasury stock as part of shareholders’ equity. If the treasury stock is sold at below its purchase cost, the loss reduces the company’s retained earnings. If the treasury stock is sold at equal to its purchase cost, the removal of the treasury stock simply restores shareholders’ equity to its pre-share-buyback level.
Paid-in Capital From Retirement of Treasury Stock
Companies may retire some treasury shares, which is another way to remove treasury stock other than reissuing it. The retirement of treasury stock reduces the balance of paid-in capital or the amount of total par value and additional paid-in capital, applicable to the number of retired treasury shares. Depending on whether the initial purchase cost of the treasury stock is lower or higher than the amount of paid-in capital relevant to the number of shares removed, either something called paid-in capital from retirement of treasury stock is credited to shareholders’ equity section, or retained earnings are debited for the additional loss of value in shareholders’ equity.
Further Reading
- Using experimental economics to measure social capital and predict financial decisions – www.aeaweb.org [PDF]
- The transformation of business finance into financial economics: The roles of academic expansion and changes in US capital markets – www.sciencedirect.com [PDF]
- Financial intermediation, loanable funds, and the real sector – academic.oup.com [PDF]
- A control theory of venture capital finance – heinonline.org [PDF]
- A new capital regulation for large financial institutions – academic.oup.com [PDF]
- Ownership, institutions, and capital structure: Evidence from China – www.sciencedirect.com [PDF]
