What is fair capital?

By Richard Loth AAA
A:

So-called "fair capital," like beauty, is in the eye of the beholder.

In financial reporting, there are two kinds of capital: debt and equity. In a company's balance sheet, the former is generally considered to be a company's long-term debt and the latter is identified as total shareholders' equity (paid-in capital, additional paid-in capital and retained earnings).

Investors can look at a company with relatively little debt and a high equity position two ways: as being "over capitalized" by not taking advantage of leverage to fund the growth and expansion of its operations, or, on the other hand, as representing a strong financial position that is capable of withstanding adverse circumstances related to the economy, its industry and/or seriously aggressive competition.

There is no one-size-fits-all position for a company's debt-equity relationship, which can vary according to a company's size, competitive position and industry characteristics.
Companies that are highly leveraged (under-capitalized) compared to those that that carry little or no debt (over-capitalized) represent distinct investing opportunities. When considering such opportunities, investors need to carefully assess the risk-reward consequences for both positions and decide which one fits their risk tolerance levels.

To learn more, read Evaluating A Company's Capital Structure.

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