Advantages and Disadvantages of Capital Investment

What is Capital Investment?

A company’s capital investment is the purchase of physical assets for the purpose of achieving its long-term business goals and objectives. Assets obtained as capital investments include real estate, manufacturing buildings, and machinery. The funds used might come from a variety of places, including standard bank loans and venture capital deals.

The profit from capital investment is not visible immediately since it’s a long-term investment. To secure future growth, a corporation prepares and conducts capital investments. Increase operational capacity, gain a larger portion of the market, and produce more income with capital investments. For the same goals, the company may make a capital investment in the form of equity ownership in another company’s complementary operations.

Need for Capital Investment

There are two approaches to Capital Investment since it’s a vast term.

Capital investment in a firm can be made by an individual, a venture capital organization, or a financial institution. The word Capital refers to money in this context. Also, a company’s management may make a capital investment in the company. They invest in long-term assets like equipment that will help the company run more efficiently or grow more quickly. In this context, capital refers to tangible assets.

A new business could seek funding from a variety of sources, including venture capital firms, angel investors, and established financial institutions. When a new firm goes public, it is attracting substantial amounts of capital from a large number of investors. While a well-established business makes a capital investment from its own financial reserves or takes out a bank loan. In order to finance capital investment, it may issue bonds or stock shares.

Downsides of Capital Investment

Although a company’s own operating cash flow is always the preferable option for capital investment, it may not be adequate to cover the anticipated costs. It’s more likely that the corporation will seek outside funding.

Capital Investment will definitely in most cases benefit the company but it may have short-term drawbacks:

  • Intensive, ongoing capital investment tends to slow earnings growth in the short term, which is never good for public business stockholders.
  • The value of a company’s outstanding shares is diluted when it issues additional stock shares, which is a common funding option for public corporations.
  • Stockholders and analysts regularly monitor a company’s total debt. The debt payments may impede the company’s future growth.

Capital Investment Sources of Fund

Capital Investment fund can come from five basic approach as shown below:

Personal Assets: These are the personal savings, home equity, investment, and retirement portfolios of the business owners. If a business owner determines that $200,000 in capital expenditure is required to start the firm; as well as to obtain the necessary equipment and launch, he may do so with his own funds; retaining 100 percent control of his company.

Family and Friends: This is the most risky way of getting investment; this is becasue the people in this category are your family members and not a business associate; they will want to see result and you will be in tension when the business fails. You will be tense during family gatherings and holidays because they will like to see results.

Banks and SBA Lenders: A company may be eligible for an SBA loan; this covers both the purchase of real estate and the purchase of machinery. Many businesses are unaware that the Small Business Administration (SBA); offers funding programs worth millions of dollars, depending on the project, industry, and company size.

Crowd funding Resources: Before now, companies use to organize an official stock offering in order to attract hundreds; if not thousands, of investors, each of whom would invest a tiny sum. Crowdfunding platforms like Kickstarter have made raising cash and launching a new company or product much easier.

Professional Investors: Typically, venture capitalists deal with huge financial institutions to raise large sums of money. Angel investors want to invest in startups in their most vulnerable stages.

Three Basic types of Business Funding

Debt Financing: Some investors consider this type of financing to be less hazardous; since they realize that if a firm encounters financial difficulties; the order of repayment is wages, taxes, loans, and then equity investors are paid the remaining amount, if any. Some investors would structure the capital investment as a debt instrument because debt has a greater repayment platform than equity.

Equity Financing: This is when someone receives part ownership in the company in exchange for their investment. This is similar to buying a stock on the NASDAQ stock exchange. One million shares may be outstanding in a firm. If someone invests $500,000 in the company at $1 per share, they will own 50% of it. If an equity owner is able to obtain the majority of shares through investment; business owners risk losing their company to a takeover.

Lease Financing: This is often used to obtain large equipment, machinery or vehicles needed for business operations. Often, these items are expensive, with massive depreciation and potentially becoming quickly outdated. By leasing, the business owner is able to obtain things with less capital investment over time; and to switch out machinery for updated models in shorter periods of time, while keeping the most updated operating equipment; thereby moving the company forward.

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