Capital is normally required for three possible applications, namely: 1. Fixed Capital: Fixed capital refers to your business needs to buy fixed assets. This means that you need the capital to buy things like buildings, machines, computers, vehicles and furniture. These items are normally purchased for use in the business and not for resale. The purpose is to generate sales. They do not have a resale value and can be liquidated again, but in most instances lose value over time. This is called depreciation. Depreciation is seen as an expense and is recorded in the income statement. Land is the only item that does not depreciate. Fixed assets on the other hand are recorded in the balance sheet. When planning your business you must determine how much you will need for fixed assets. This capital will then be fixed and will not be available to for something else. Note that there is generally a cost linked in obtaining such capital. This will limit the amount that you can justify. careful planning of your fixed asset requirements is therefore necessary. 2. Working Capital: Apart from buying assets for your business, you will need cash to run your business. Capital that will work for you and generate a profit. Working capital is used to buy items like raw materials, paying wages and electricity. Since you wont have have an unlimited amount of money available and sales income is not always sufficient, planning your money supply is very important. To know how much money you are going to need and at what stages, you will have to compile a cash flow statement. Remember working capital is not profit, it is money needed to generate profit in the long term. 3. Growth Capital: Growth capital surfaces when an existing business expands or changes it direction. For example, a small manufacturer of TV cabinets sees his business skyrocket in a short time period. With orders streaming in , the business needs a sizeable cash infusion to increase the plant size to keep up with the huge demand. Just a final note on equity financing, in general there are two main sources of funding for a business namely debt and equity financing. The main difference between the two is that with debt financing the lender does not acquire ownership or any say in the day to day running of the business. However, the cost of such a benefit is interest that you must pay on the amount borrowed. Equity financing does not normally involve any costs such as interest but you might have to sacrifice a certain percentage share in ownership. Forms of equity financing: 1. Personal funds It is the most common source of funding a business. It comes either from personal savings or a re-mortgage on a house. 2. Friends and relatives: As the name suggests, this form of financing is derived from the support of friends and family. People who know you and trust your business concept. However there are potential pitfalls, money, friends, family and an unsuccessful business do not go hand in hand. 3. Equity shares: This form of financing normally refers to partnerships and closed corporations. This option provides an opportunity to get hold of additional capital for the business by accepting a partner or a member who possesses the financial means, but usually means a sacrifice in percentage ownership. |
