Capital
Candlefocus EditorCapital is the money a business has available to pay for its day-to-day operations and to fund its future growth. The four major types of capital include working capital, debt, equity, and trading capital. Working capital is the money a business has available for day-to-day operations, such as payroll, inventory, supplies, and expenses. Equity capital is the money coming from owners or investors in form of stocks and can be used to fund acquisitions and new business ventures. Debt capital or debt instruments are typically borrowed funds like bonds, notes, or loans. The money acquired from debt is usually used to finance business expansions or capital improvements, while investment returns produced from debt service payments help generate a stream of income. Trading capital is used by brokerages and other financial institutions to buy and sell securities.
The capital structure of a business determines what mix of these types of capital it uses to fund its business. The right capital structure creates a balance of risk and return that allows a company to increase their returns on investment while providing a range of financial options. A company’s capital structure also affects its liquidity and its ability to operate in good and bad times. Additionally, a company’s capital structure influences its debt rating and its ability to acquire capital from external sources.
Economists look at the capital of a family, a business, or an entire economy to evaluate how efficiently it is using its resources. For example, a business with a high debt-to-equity ratio and a low return on investment would likely be seen as a poorly managed business. On the other hand, a highly liquid business with a diverse capital structure would be viewed more favorably. A strong capital structure helps a business maintain liquidity, value, and profitability while allowing it to finance long-term needed projects and take advantage of economic opportunities.
In a nutshell, capital is the financial resource a business has available to pay for its operations and fund its growth. It consists of cash, debt instruments, equity investments, and trading capital. The right mix of these multiple sources of capital creates a capital structure that can support a business during both good and bad economic cycles and can serve as the foundation of long-term success.