As a business owner, there are many things that need to be prepared to run a company. One of the most important considerations is a full understanding of capital. Capital is essential to keep a business running and growing.
In short, capital is cash or liquid assets that each company secures to pay for their expenditures. It is both a measurement of wealth and a resource that one could utilize to increase company wealth through different investments. The financial assets that a company has in deposit accounts and funds that it received from other financing sources are considered to be its capital.
Capital can be held through financial assets, or be can procured from debt or selling company stock to investors, otherwise known as equity financing.
A firm’s capital is the core of the business. The company needs this to run and finance all the assets that require significant amounts of money. There are three types of business capital that every business needs to prepare: working capital, debt capital, and equity capital.
Another term that needs to be discussed is capital assets. These are assets of the business that may be part of the current or long-term portion of the balance sheet. These can either be in cash, cash equivalents, and marketable securities. It may also include the company’s production and storage facilities and their manufacturing equipment.
Capital is vital for the business to grow. All companies must be careful about how they finance their working capital, which is for daily expenses, and how they invest the money that they obtained. If done well, the company’s return on investment would be guaranteed. The business’s net worth would depend on the total capital and capital assets that the company holds.
The company will use the capital to pay for everything that it needs to manufacture the products that they will sell to the market, which will create profit. Most companies also use this to invest in all sorts of things that could be beneficial to the business. They mostly allocate their capital for expansions both in labor and buildings or facilities. Doing so directs money towards investments that would bring in more money than the cost of the capital.
As time passes by, the firm must carefully assess the capital thresholds, capital needs for investments, and all its other capital assets. This can be done by reviewing and analyzing the balance sheet.
What are Capital Requirements?
Capital requirement is the total amount of funds that the firm will need for the business to achieve its goal of raising profit. The way to calculate this is by adding the founding and start-up expenses and investments. Afterwhich, one can subtract their equity capital from their capital requirements to know how much external capital they will need.
When making the business plan, the management and executives must also specify the capital requirements because there are follow-up costs that need to be considered. Remember to calculate the capital requirements as accurate as possible. However, it is also important not to plan too conservatively in case the company will face unforeseen financial problems in the future.
On the other hand, if one calculates too generously, the funds are much more flexible, but that would be much more expensive. Take note that one must prioritize liquidity over profitability. Meaning it is much better to have too much credit and return it, then subsequently finance funds.
Start-Up Capital Requirements
One of the most challenging tasks for anyone that wants to start their own business is preparing the right amount of start-up capital they will need. Start-Up capital is the money that one will need to keep the business running until it will break-even (positive cash flow). If business owners cannot calculate enough capital to sustain the company until the break-even point, the business will go bankrupt and fail.
To create a budget, one must include all the expenses from recurring costs (lease, electricity, taxes, payroll, etc.) and income. Also, take note of one-time expenditures, such as business licenses, building signs, and incorporation costs. To calculate an accurate budget, list everything down on a spreadsheet, including:
Capital Intensive Start-Ups
Managing capital-intensive startups is tricky. Most investors and debt lenders have an aversion to capital-intensive business models and industries like biotech, medical devices, cleantech and semiconductors.
Carrying considerable staff, receivables, inventory, research and development costs, and even buildings, as a more capital-intensive startup takes a special kind of focus, patience and partnership with investors, management and employees.
Unlike software, bootstrapping a capital intensive company is not a long-term option. These industries are far too risky for debt financing, too.
You will need equity financing to run operations like R&D, labs, highly compensated research professionals, and, as you get closer to commercial viability, clinical trials and regulatory approvals.
Business Capital Structure
A balance sheet analysis must be done to review and assess the business capital, which will eventually lead to profitable returns. There are several types of capital that make-up the business capital structure, and those are:
A company can acquire funds by getting a loan either from private or government sources or from the owner’s friends or family. However, to obtain this, one must have an active credit history and excellent credit rating. Companies must also remember that this option requires regular payment of the amount borrowed plus interest, which will depend on the capital that was obtained and the borrower’s credit history.
This can come in three distinctions, namely private equity, public equity, and real estate equity. The first two are usually in the form of shares. Public equity capital will be received if the owner lists their company on a market exchange that is open for all people to invest in and become a shareholder. On the other hand, private equity capital comes from the owners or selected investors.
A business will need its most liquid capital assets to cover all of the daily expenses that the company will incur. This must be calculated regularly. This measures the company’s ability to pay for the debts and accounts payable within a year.
This refers to the total amount of money available for people to buy and sell different securities. Investors or traders can increase their trading capital by utilizing various trade optimization methods.