What Is an Initial Capitalization?

The term "capital," which essentially means money, exists where the worlds of business, finance, accounting and economics converge. Myriad phrases from the languages of these worlds include the word “capital,” many of them overlapping and intersecting in confusing ways. "Initial capitalization" constitutes one such phrase. This term occurs only sparingly in business literature, as it overlaps with the much more commonly used “start-up capital.” Despite this overlap, the process of initial capitalization is its own beast.

Initial Capitalization

Initial capitalization proves relatively simply as a concept. Basically, it constitutes the process of by which an organization generates the capital required to begin operation and organizes its capital structure, or financial make up. It may also refer to the process of raising money for a new venture or project undertaken by an established organization. The money raised during the initial capitalization process constitutes initial capital, a synonym for start-up capital. The initial capitalization process requires balancing the needs of an organization with available funding.

Sources of Initial Capitalization

Sources of initial capitalization depend upon the size and nature of the organization in question. Author Eric Koester writes in his book “What Every Engineer Should Know About Starting a High-Tech Business Venture” that with small business, approximately 74 percent of initial capital comes from business owners. Other sources of initial capital for companies of all sizes and types include stock issuance, venture capital investments, private institutional investors, non-financial corporations and families and friends of business owners. Nonprofit organizations or ventures, like schools or hospitals, may receive grants, endowments or public money.

Impact on an Organization

Initial capitalization exerts a marked impact on an organization. The amount of money raised during the process affects the extent to which an organization operates and may even affect services offered. For instance, the book “Exploration of the Seas” by the National Research Council Committee on Exploration of the Seas states that initial capitalization affects whether a sea exploration organization can afford to purchase its own vessel or whether it must rent one. In “A General Theory of Entrepreneurship,” Scott Andrew Shane writes that the more money an organization raises through initial capitalization, the higher its chances of success.

Initial Capitalization in Share-Issuing Companies

The process of initial capitalization for companies that issue shares proves significantly more complicated than with companies not issuing shares. When a company issues shares, it must deliberately create a capital structure, or financial framework, balancing money earned through equity and debt. These companies decide how many shares to issue in relation to the amount of debt it assumes from loans and the issuance of bonds. It also decides how it issues those shares – common stock versus preferred stock, restricted stock versus stock options.

References

• “Exploration of the Seas”; The National Research Council Committee on Exploration of the Seas; 2003
• “What Every Engineer Should Know About Starting a High-Tech Business Venture”; Eric Koester; 2009
• “Financing Your Business Made Easy”; Ralph Alterowitz et al; 2007
• “A General Theory of Entrepreneurship”; Scott Andrew Shane; 2003