Limited Liability The corporate form of doing business is attractive to owners of a busi-

Limited Liability The corporate form of doing business is attractive to owners of a busi-

ness because it limits their liability. The most owners can lose is the amount of their investment. But this is not quite true. The amount own- ers—the shareholders—can lose depends on whether there is a par value for their shares.

Each share of stock may have a par value, indicated on the stock certificate. Par value represents the maximum amount of each share shareholders can be responsible for if the firm became insolvent (that is, unable to pay its debts).

If shares are sold at or above par value, the most shareholders can lose in the case of insolvency what they paid for their shares. Suppose a share of stock has a $100 par value and is sold for $110. If the corpora- tion is liquidated and the proceeds are not enough to pay all the credi- tors, the stock is worthless and shareholders have lost the $110 invested in each share.

If shares are sold for less than their par value, some states’ laws require that shareholders be held liable for the difference between what they paid for the shares and the par value. Suppose a share of stock has

a $100 par value and is sold for $90. If the corporation is liquidated and the proceeds are not enough to pay all the creditors, the owner of each share is liable for $10 per share—the difference between what they paid for the stock and its par value.

This potential for liability has encouraged corporations to issue stock with very low par values—say $1 or even 1 cent—or no par at all. Shares of stock issued without a par value are referred to as no-par stock. This creates a problem for accountants—they like to record something in the balance sheet to represent the value of the stock. Firms issuing no-par stock assign an arbitrary value per share, referred to as the stated value, which implies no liability.

The Numbers of Shares The equity pie can be split into any number of pieces. There can be one

share that represents 100% ownership or 100,000 shares, each share representing a 0.001% ownership share.

How many shares of stock may a corporation issue? The number— referred to as the authorized shares—is specified in the corporate char- ter. If a firm wishes to issue more shares than specified, the charter must

be amended to change the number of authorized shares. But a firm does not have to issue the entire number of shares authorized. The number of issued shares—the number of shares sold—is equal to or fewer than the number of authorized shares.

FINANCING DECISIONS

If a firm buys back stock from investors, the number of shares left in the hands of investors—referred to as outstanding shares—is fewer than the number of issued shares. Shares bought back from investors may be either retired (that is, eliminated from existence), reducing the number of issued shares, or held as treasury stock. Shares held as treasury stock are not considered outstanding shares and can be used by the firm, for example, to provide shares to employees when they exercise their stock options.