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the latter state has the right of refusing to recognize it as a corporation; that is, the right to treat it as a mere partnership. In practice, however, one state freely recognizes the corporations of another state under the rule of "interstate comity." In fact, many corporations transact all their business outside the borders of the state which chartered them. The real standards, therefore, are the laxest standards, not the highest. More use on the part of American states of the power of exacting certain standards from "foreign corporations," as they are called, is much to be desired.

In a strictly legal sense

Corporation Capital and Securities. the capitalization of a corporation is the amount of its authorized capital stock. This capitalization represents, in theory, the amount of money actually invested in the business by the original stockholders. As a matter of fact, the full amount of the authorized capital is rarely paid in at the organization of a new corporation. The capitalization is apt to be, in practice, a purely arbitrary thing, a nominal money sum divided into units or shares, the relative holdings of different individuals being measured by the number of shares they own.

Corporation stock is divided into two general classes, — preferred stock and common stock, although many corporations issue only the latter. Preferred stock represents a prior claim on the earnings of the corporation. A corporation which has "6 per cent preferred stock" outstanding can pay no dividends to its common stockholders until it has paid 6 per cent dividends on its preferred stock. Preferred stock may be cumulative (in which the prior claims to dividends accumulate from year to year, if unpaid) or non-cumulative. It may or may not have any claim on any part of the surplus profits remaining after a certain rate of dividend has been paid on the common stock. There may several different grades of preferred stock,-first preferred, second preferred, etc.

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In the popular use of the word the capitalization of a corporation includes also its funded debt. The funded debt is represented by bonds, which are interest-bearing promises to pay certain sums of money at definite times in the future. There are many differ

ent kinds of bonds, but three principal classes are: (1) mortgage bonds, (2) collateral trust bonds, (3) income and debenture bonds. The first class is based on a mortgage of all or of a specific part of the property of a corporation. Collateral trust bonds are secured by the pledge of securities issued by other corporations, but owned by the corporation issuing the bonds. They have been much used in financing railway consolidations. Income and debenture bonds are usually secured only by the earning capacity of the business. Industrial corporations make less use of bonds than do railways, and confine themselves usually to the mortgage bond type, of which, however, there are many subordinate varieties. In the case of many corporations the mortgage security behind an issue of bonds is in itself not of great importance, for the property mortgaged is apt to be worthless except as an integral part of a unified business establishment. The mere power of foreclosure, however, gives mortgage bondholders a position of strength in the reorganization of insolvent corporations.

Bonds are sometimes said to represent "creditor interests," and stock "entrepreneur interests." This statement is suggestive and is fairly accurate. In fact, however, stock and bonds are simply different kinds of equities in a business, — conveying the right to receive income, to share in the distribution of the assets in case of insolvency, and to have a voice in the management. Stockholders alone participate in the management of the corporation, although bondholders are often able to dictate policies when the affairs of a corporation are in a precarious condition. Bonds differ from stock in being terminable at a definite period of time in the future. In practice, however, the bonds of great corporations are usually replaced by new issues as rapidly as they mature.

Overcapitalization. -Much has been said about the overcapitalization of corporations, "stock-watering," as it is called. Only a few states require that all the nominal capitalization' should represent capital actually invested. In most states, moreover, it is not difficult for a corporation to increase its capitalization from time to time in order to secure funds from the sale

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of securities, or (in the case of stock-dividends) in order to afford a basis for the distribution of surplus profits without employing an excessively high interest rate. It is this last cause of increased capitalization that is of special importance in this connection.

On the one hand it is urged that capitalization is a nominal thing, that it is immaterial whether a corporation pays 12 per cent dividends on $1,000,000 of capital stock or 6 per cent dividends on $2,000,000 of capital stock. On the other hand it is said that capitalization should not be a merely nominal thing, but that it should represent the actual amount of the investment; that, without regard to the amount of capitalization, regularly recurring dividends of 12 per cent suggest excessive profits in a way that 6 per cent dividends do not.

The argument in favor of a closer correspondence between capitalization and real investment is especially strong in the case of railways and other transportation corporations with quasi-public functions, municipal public service corporations, and corporations enjoying natural monopolies of all kinds. For there is a growing feeling that such corporations are in a peculiar sense social trustees, to whom have been committed certain public economic functions that might very properly be performed by the state, if that course were deemed the more advantageous. That such corporations should be restricted to the payment of a reasonable dividend on reasonable capitalization would seem to be a proposition that is scarcely open to question.1 Yet excessive profits are what make excessive dividends possible, and whether profits are excessive or not can be determined in most cases without reference to capitalization by the compulsory use of adequate accounting methods.

Overcapitalization should be looked at also from the point of view of the investor, -a point of view too often overlooked. When overcapitalization is permitted, it is frequently extremely difficult and often, indeed, impossible for the ordinary investor to know precisely what he is buying when he purchases a share

1 It is better to curtail excessive profits by public control of rates, prices, and services than by arbitrarily limiting the dividend rate.

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of stock of an overcapitalized company. It helps to approximate equality of opportunity for all when there is an exact correspondence between investment and capitalization. If a person buys a share of national bank stock at $4000, he at once knows that the original investment was $100. The apparently high price immediately challenges attention, and the investor is led to look into the grounds of the high price. There are cases in which such a price would prove a remunerative investment, but it is well to warn the investing public by prohibition of overcapitalization. It has been strongly urged, and with some ground, that it is in every way highly desirable that the corporate property of the country should be more widely distributed; and to promote this end, every measure which gives the average man a "square deal" in investments must be strongly favored.

While overcapitalization has thus many undesirable features, it has nevertheless sometimes been unduly emphasized in discussions of corporation reform, to the neglect of other and more important points.

In this connection we should note the difference between the "capitalization" and the "capital" of a corporation. The business world uses the term "capital" in two ways: it speaks of the total permanent investments, the amount of money "tied up," -in a business as its capital, and it also speaks of the total selling value of the business as a whole as its capital. This last may depend in part on such intangible things as monopoly power or good will. It is measured by the "capitalized" earning capacity of the business, or, approximately, by the market value of the corporation's securities, as distinct from the par values which measure the nominal capitalization of the corporation.

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Form of Capitalization. A significant feature of recent development in corporation finance is the multiplicity of types of corporate securities. It is no uncommon thing, for example, for the equities in a railway corporation (in addition to the floating debt, or accounts payable) to be divided among a dozen or twenty varieties of bonds and two or three varieties of stock. This multiplicity of securities is of advantage to the corporation in that it enables it to offer to investors and speculators a carefully

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graded assortment of risks, ing value of a corporation's securities greater than it would otherwise be. This complex kind of capitalization has, however, some undesirable features. If the owners of a particular security,the common stockholders, perhaps, control the corporation, they may desire to increase the value of their securities for speculative purposes by the payment of unearned dividends, very properly a criminal proceeding according to the laws of some states -a proceeding which would be opposed to the interests of the holders of all the other securities of the corporation. Moreover, in cases of insolvency and reorganization, it is a difficult matter to untangle and to adjust equitably the rights of the holders of the different kinds of securities.

In times of prosperity corporations often pay for extensions of their plants from the proceeds of bond sales, because it is estimated that the earning power of such extensions will more than suffice to pay the interest on the bonds and will afford a handsome surplus for the stockholders. Corporations thus accumulate in prosperous times an unwieldy load of fixed charges in the form of interest on bonds, a fact which is apt to be a source of difficulty in less prosperous years. In periods of financial stringency these fixed charges are a common cause of insolvency, receiverships, and consequent reorganizations, from which the bondholders are apt to emerge as stockholders, and in which the stockholders are apt to lose their holdings. The legal restriction of the securities issued by any one corporation to one kind of stock and three or four varieties of bonds is both feasible and desirable. Nor should the bonded debt be allowed to greatly exceed the amount of the paid-up capital stock.

Corporation Management. — The management of business corporations is, as a rule, in the hands of boards of directors, elected by the stockholders from among their own number. The details of management are in the hands of officers, chosen usually by the directors. In principle this system achieves something like representative government of the affairs of the corporation. In practice, in the larger corporations, some of the directors are apt to be "dummy directors," usually employees of the corporation,

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