Capital encompasses a wide array of assets that deliver value or benefits to their owners, including tangible assets like factories and machinery, intangible assets such as patents, and financial resources of both businesses and individuals.
Though often equated with money, capital more accurately refers to funds allocated for investment or productive use. Essential for daily operations and future growth, capital for businesses may come from operational earnings or through raising funds via debt or equity financing.
Key sources of capital include:
Personal savings
Contributions from friends and family
Angel investors
Venture capital firms
Corporate investments
Government grants or loans
Private lending
Proceeds from business activities
Initial Public Offerings (IPO)
Businesses prioritise three main types of capital in budgeting: working capital for day-to-day expenses, equity capital from shareholders, and debt capital through loans. The finance sector identifies a fourth type, trading capital, as crucial for operations.
Economists view capital as fundamental to the operation of any economic unit, whether a household, small enterprise, multinational corporation, or the economy as a whole. Capital assets, appearing on the balance sheet as either current or long-term assets, include cash, securities, and physical resources like equipment and facilities.
Capital, in essence, is cash or liquid assets held or acquired for expenditure. More broadly, it can refer to all assets with monetary value owned by a company, such as equipment, real estate, and inventory. However, in budgeting terms, capital mainly refers to cash flow.
Capital is a measure of wealth and a means to increase wealth through direct investments or capital projects. The way individuals and businesses manage and invest their capital is pivotal for their success.
Usage of Capital
Businesses deploy capital to fund ongoing production and service offerings, aiming for profit. Investment can take many forms, such as expanding labour forces or facilities, to achieve higher returns than the cost of capital.
At national and global scales, financial capital is scrutinised by economists to assess its impact on economic growth, with metrics such as personal income and consumption being key indicators. Business and financial capital are evaluated in terms of a company’s capital structure, including mandatory capital reserves for banks as a risk mitigation measure.
Business Capital Structure
The capital structure of a company is analysed through its balance sheet, divided into assets, liabilities, and equity. The composition of these elements defines the company’s financial strategy.
Debt financing, or borrowing, results in a capital asset that must be repaid, while equity financing through stock sales offers cash capital listed in the equity section of the balance sheet. The costs and repayment terms of debt capital are generally more stringent than those of equity financing.
Business capital analysis focuses on metrics such as the weighted average cost of capital, debt-to-equity ratios, and return on equity, among others.
Types of Capital
Businesses concentrate on four primary types of capital:
Debt Capital: Capital acquired through borrowing, from either private or governmental sources. This includes bank loans, bonds, and other forms of debt that must be repaid with interest.
Equity Capital: Capital raised through the sale of company shares, either publicly via an IPO or privately among select investors. This form of capital does not require repayment but does give investors ownership stakes.
Working Capital: The liquid assets a company uses for day-to-day operations, calculated as current assets minus current liabilities. This reflects the company’s short-term financial health and its ability to cover immediate obligations.
Trading Capital: Capital allocated by trading firms or brokerages to buy and sell securities. Successful trading strategies depend on optimizing the use of this capital to enhance returns.
The management and optimisation of these capital types are crucial for the sustainability and growth of businesses.