Capital
Capital refers to the wealth owned by a person or organization, or the wealth available for a purpose such as starting a company or investing. It can be in the form of money or other assets. For entrepreneurs and small business owners, capital fuels their operations and growth.
What are the different forms of capital?
To manage a company's financial strategy and day-to-day operations, it's crucial to have a firm grasp of a company's financial capital and capital assets.
Examples of financial capital include:
- Debt
- Equity
- Working capital (money to meet short-term obligations)
- Funds held in deposit accounts
Examples of capital assets include:
- Buildings
- Land
- Machinery
- Production equipment
Debt vs. equity capital
In the broadest sense, capital can be any financial asset. For small businesses, capital is often categorized into two types: debt and equity.
What is debt capital?
This type of capital is borrowed from external sources and must be repaid over time with interest. Loans from banks or credit unions are common sources of debt capital.
What is equity capital?
Equity capital is raised by selling shares of the company to investors. This type of capital does not need to be repaid; however, shareholders then own a portion of the business’ capital value and may have a say in its operations.
Capital in small business operations
For small businesses, capital is not just about maintaining liquidity; it's about investing in the future. Working capital, which is used for daily operations, must be managed to ensure that a company can afford ongoing business expenses.
Calculating working capital
To calculate working capital, subtract a company’s current liabilities from its current assets.
Working capital = current assets - current liabilities
This formula helps determine a company's ability to pay off its short-term obligations and sustain daily operations.
Small business example
Consider a local artisan coffee shop. To start the business, the owner used a combination of savings ($40,000), a small business loan ($20,000), and funds from a coffee enthusiast investor ($20,000 in capital investment), totaling $80,000 of initial capital. This capital was used to secure a lease, renovate the space, purchase espresso machines, and cover initial inventory costs—everything needed to start serving coffee to the community.
FAQs
How can small businesses acquire capital?
Small businesses can acquire capital through grants, government loans, bank loans, investor funds, crowdfunding, or through profits earned from business operations.
How does capital differ from revenue?
Capital refers to the funds and assets initially invested in a business to start and run it, often used for long-term growth and investment. Revenue, on the other hand, is the income that a business earns from its normal business activities, usually from the sale of goods and services to customers.
Is too much debt capital risky for a business?
Yes, having too much debt capital can be risky, as it requires consistent repayment which can drain business resources—especially if cash flow is interrupted.
Why is equity capital important for small businesses?
Equity capital provides funds without the obligation of repayment, and investors can bring additional expertise and resources to the business. Capital is more than just money in the bank—it's the resource that enables a business to start, grow, and thrive. For small businesses, raising equity capital and having the right mix of debt and equity capital is key to running a company. It provides the means for expansion, innovation, and stability.