Thin capitalization

A business is said to have thin capitalization when the proportion of debt in its capital structure greatly exceeds the amount of equity. This situation is usually considered to be untenable over the long term, since the organization may encounter a period in which its cash flows cannot support the debt servicing payments associated with the debt. As long as this is not the case, thin capitalization can generate unusually high returns for investors, since only a small equity investment is being used to support earned income. Creditors and lenders are unlikely to extend credit to a firm with thin capitalization, unless they can obtain collateral or personal guarantees to protect them in the event of default.

Related Courses

Corporate Finance 
Treasurer's Guidebook