What is capital?
Whether you plan to start a new company, expand a current business, or invest in the stock market, you’ll probably need to raise some capital. This capital will help you fund business growth or make a personal financial decision that typically involves a large sum of money.
On this page, we answer common questions such as “what does capital mean?” and “what is the definition of capital?”. We also summarise the different types of capital and explain how capital differs from money.
- Capital definition: Capital is any type of asset that can help increase your ability to generate value
- Investing: Individuals and companies use capital to invest in the stock market or to purchase any type of security that can lead to a return on investment
- Capital uses: Companies use capital to provide support for their business, to produce more goods and services and to generate more profit
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Capital definition: what does capital mean?
Let’s start by going back to basics and looking at what capital actually means. Put simply, capital is a term for cash or financial assets held by a business or an individual. It can be a total sum of different assets, such as bank deposits, stocks and other resources of cash. It’s generally any type of asset that can help increase your ability to generate value.
Capital for businesses is assets found in either the current or long-term portion of a balance sheet. It can include cash, cash equivalents, stocks, bonds and other marketable securities. It can also include manufacturing equipment a business owns, company cars, software, patents and brand names.
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How does capital work?
Capital is a measurement of wealth, or a resource that provides wealth through investments or business project investments. Individuals hold capital and their capital assets, and these are part of your net worth. You can use your capital to invest in financial products, such as stocks and shares, as a way to make a return on your investment.
For a business, capital can support goods and services production to generate more profit. Companies use capital to invest in many kinds of things that allow their business to increase in value. They also use capital to expand their workforce and physical premises.
What are the different types of capital?
The following are the four different types of capital:
- Debt capital: A business can obtain debt capital through private or government sources. Individuals or companies who seek to acquire debt capital must have active credit. Debt capital requires you to make regular payments, including interest, and the amount and term you get will depend on your credit history
- Equity capital: Equity capital comes in many forms, including private equity, public equity and real estate equity
- When a company is listed on the stock market and receives money from selling shares, they generate public equity capital
- When a company not listed on the stock market sells their shares privately, they generate private equity
- Real estate equity is an asset class that pools private and public investments in the property market
- Working capital: Working capital includes the liquid capital assets a company uses to meet their financial obligations. It essentially measures a company’s short-term liquidity, which is its ability to clear debts, accounts payable and other obligations the company may have
- Trading capital: Held by individuals or firms who make large numbers of trades daily, trading capital refers to the capital allotted to buy and sell securities
What does capital mean in economics?
In economics, capital typically means liquid assets. This means cash in hand that can be spent today, whether this is on long-term projects or immediate necessities. Globally, capital would mean all of the money currently in circulation in the world.
What’s the difference between capital and money?
Capital is the same as money, but the difference lies in how they’re used.
- Capital is typically used for financial and business purposes, such as investing in stocks and other securities focused on long-term growth.
- Money is typically used to make purchases and sell goods and services. Individuals use money for immediate purposes and purchases, as opposed to using it to grow wealth.
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Why is capital important to businesses?
Capital in a business context includes three main categories; financial, human and natural.
Financial capital includes debt and equity. Debt is a loan or financial obligation a company makes to fund operations and generate more revenue. This debt incurs interest that a company repays through regular payments over time.
Equity is the ownership or your stake in a company. Equity investors receive the residual value of a company when it’s sold or shut down.
Human capital is essentially a company’s workforce. Companies use human capital to create products and services that generate revenue, but this doesn’t mean a company owns people. Instead, a company employs people, or human ‘assets’, with intellect, skills and talents.
Human intellect refers to the intelligence of a company’s employees and their ability to solve problems, form strategies and think creatively, all of which can help the company outperform its competitors. Similarly, the skills and talents of individuals benefit a company’s growth.
Natural capital is the resources a company uses to operate and increase its value over time. These resources can include water, wind, solar, trees, plants and any other resource that helps a company generate income and increase production. However, many companies don’t have natural capital as it isn’t necessary in running every business.
Capital and business growth
Capital not only enables businesses to fund their day-to-day operations, but it also acts as leverage for any future expansion plans.
A company’s capital structure (the balance of equity and debt financing) can tell the outside world a lot about the business’s current health and future prospects. A company’s balance sheet contains vital information about its capital structure and is one of the first places potential investors or lenders will look. Investors will normally examine key ratios such as debt to equity, debt to capital, weighted average cost of capital and return on equity.
Put simply, the more capital a company can generate on its own, the more attractive it’s likely to be to outside investors. That being said, many companies also generate capital through debt financing (otherwise known as debt raising). This may either be through a loan or by selling corporate bonds to investors.
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