Decapitalization is a process of asset reduction by a company.
Undercapitalization is a very common event in business. In this sense, when the accumulated losses exceed the totality of the capital stock, producing a negative net worth in these, it is said that the company has suffered a total decapitalization; the situation being due to an outflow of capital due to the losses that have been accumulating. When the net worth is negative, the company is said to be in a situation of technical bankruptcy. This is due to the fact that, depending on the law of each territory, a negative net worth shows the unviability of the company, since the assets are exceeded with the liabilities.
The bankruptcy situation, caused by decapitalization, may or may not be reversible.
We can also speak of undercapitalization when a company, even having not exceeded the threshold established by technical bankruptcy, suffers a massive capital outflow for various reasons.
Another event in which this concept is used is that produced by the loss of the value of the assets, in favor of an increase in the value of the debt contracted.
Causes of decapitalization
Among the causes that can cause a decapitalization process in a company can be found many, and very diverse.
Among these, the following should be mentioned:
- A system of high taxes.
- High operating costs.
- Inefficiencies and flaws in the strategy.
- Abuse of the contracting of debt and high costs thereof.
- Lack of investment in capital and R&D.
- Poor economic and financial planning of the company.
Consequences of decapitalization
Among the main consequences of decapitalization, it is worth highlighting the closure of companies, as well as the consequent loss of productive capacity that this fact entails.
However, there are another series of consequences of undercapitalization, among which we could highlight the following:
- Loss of wealth.
- Destruction of employment.
- Capital flight.
- Loss of productive capacity.
- Increase in inequality.
- Increase in bad debts.
- Legal costs.
How to prevent and avoid decapitalization?
To avoid the causes, as well as the consequences, derived from undercapitalization, the company can adopt strategies that allow it to anticipate this situation.
Among these strategies, the following should be highlighted:
- Carry out a correct strategic planning.
- Prepare a good economic-financial planning.
- Project cash flows to anticipate scenarios.
- Control and monitor the existing and future market.
- Strict control of capital inflows and outflows.
- Create budgets continuously.
- Invest in R&D and capital to ensure efficiency.
What to do in a decapitalization situation?
If the company is already undercapitalized, as well as in need of resources, we are in great trouble.
In this sense, the fastest, if this occurred due to the company's high debt, is the renegotiation of the debt and the establishment of new payment periods. In addition, in the absence of resources, requesting more credit can help us to achieve immediate liquidity.
However, if the above is not possible, we have another series of tools to attract financing that can help us get out of the quagmire. In this sense, we can look for investors to partner with and restructure the business. Also, we can look for capital in the financial markets; or, finally, try to integrate ourselves into a stronger business group.
Ultimately, if decapitalization is due to lack of demand, the best possible strategy, if not wanting to close the company, is to reconversion of the business model. All this, with the consequent implementation of an alternative model, more viable in the face of the new market situation.