Paid-in capital is the money investors pay a company when the company issues stock. This applies to either common or preferred shares, but only when those shares are initially issued by the company.
For example, when a venture capital fund invests in a new start-up, the money the VC invests is considered paid-in capital. Likewise, when established companies issue new shares to institutional investors, that capital is also considered to be "paid in."
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On the other hand, when you buy a share of a company from your brokerage account, that's not considered paid-in capital. The share(s) in that transaction have already been issued by the company in the past -- the money from that transaction doesn't actually get "paid in" to the company; instead, it goes to another existing shareholder.
Where can you find paid-in capital on a company's financial statements? Paid-in capital is located in the "Shareholder's Equity" section of the company's balance sheet. It may appear as "Paid-In Capital" or "Contributed Capital," and it will sometimes appear alongside "Additional Paid-In Capital." Additional paid-in capital is essentially the same thing as paid-in capital except it represents money that was paid above the stock's par value at the time the shares were issued.
For example, if a company issues 100 new shares with a par value of $5 per share, but investors actually pay $7 per share for the stock directly to the company, then the company will raise a total of $700. Of that, $500 will be paid-in capital, calculated using the stock's par value. The remaining $200 is additional paid-in capital, accounting for the $2 premium investors were willing to pay above par.
Why should investors care about paid-in capital?Understanding the component parts of a company's shareholder equity can be a meaningful exercise for investors. On the one hand, tracking paid-in capital is an easy way to identify if a company is issuing new shares to the detriment of the stock's value. Issuing new shares -- common or preferred -- may or may not be a bad thing. But tracking paid-in capital over time can alert an investor to dive a little deeper to understand what's happening and why.
It can also be useful to understand how much of a company's equity has been generated from investor contributions versus retained earnings. As a company matures, most companies should increase their shareholder equity account through retained earnings instead of paid-in capital. If that isn't happening, an investor should try to find out why. There are exceptions where this occurrence is totally acceptable, most commonly REITs and other corporate structures required to pay out the majority of their profits as dividends each year.
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The article How to Calculate Paid-In Capital by Looking at the Balance Sheet originally appeared on Fool.com.
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