What are examples of capital investments?
What is a capital investment? Discover more about capital investments and what they mean for investor on Fineco Newsroom.
IN A FEW WORDS
Capital investmentWhat is capital investmentInvesting
7 min reading
Capital investments: what are they, and why are they important for investors?
A baker has a brilliant recipe for a new pastry but nowhere to bake it in large quantities. A rock-climbing gym is becoming a popular hangout spot, but its tiny parking lot can’t accommodate all its customers. Demand is soaring for a container shipping company’s service, but it doesn’t have enough cargo ships to meet that demand. All of these potential or existing enterprises need capital investments if they are to grow.
What is a capital investment?
Capital investment means two different but related things.
From a corporate perspective, a capital investment is the money used to purchase the fixed assets a company needs to carry out its operations or seize new opportunities to make a profit. Under this definition, “capital” refers to long-term physical assets. Vehicles, buildings, computer equipment, furniture, machinery, and land are all examples of capital investments.
For a trucking company, this could mean buying more trucks to expand its fleet or fix ones that have broken down. A printing business might make a capital investment to buy the latest printing technology and acquire a competitive edge by increasing its quality. An accountant will record capital investments on the assets side of the balance sheet in the category of property and equipment.
Meanwhile, from an investing perspective, a capital investment is the money (cash) invested in order to fund the purchase of long-term assets rather than day-to-day operations. Under this definition, the two types of capital investments are debt and equity. Businesses might seek a bank loan to purchase equipment. Another common sources of capital investment, especially when a firm is just starting out and doesn’t have the track record to qualify for a bank loan, are venture capitalists and angel investors. These sources of alternative investment capital invest cash or assets in a business in exchange for an equity share in the enterprise itself. When a company issues new shares to fund the purchase of long-term assets, this can be considered a capital investment; an IPO is a way to acquire capital investments as equity.
Capital investments should not be confused with capital markets, which are venues where a broader range of long-term financial instruments are trading. Those seeking to learn how to invest in capital markets will likely focus on stocks and bonds in general rather than investments made specifically to help companies acquire tangible assets.
Capital investments are generally made to:
- Launch or expand a business
- Keep up with new innovations in the industry (to increase productivity or gain market share)
- Replace ageing assets.
Why are capital investments of general interest to investors?
From a macro-economic perspective, capital investments can be a very important sign of the confidence of businesses and of the economy’s overall strength. In recessions, businesses tend to hunker down and ride out the storm instead of making new outlays to expand production capacity or grow their business. This indicator can therefore give investors clues about general trends that could affect the value of their holdings.
At the level of specific companies, issuing new stock to fund capital investments can lower the value of current shares. It can also affect debt ratios, something that investors who use fundamental analysis techniques watch closely. If a firm overreached in financing new fixed assets with debt, a higher debt ratio could indicate that the burden is threatening its financial health and that it could be at risk of defaulting.
Meanwhile, a low debt ratio could be an indication that a company is not taking full advantage of leverage to grow, including through capital investments. Also, individual stocks tend to swing upward when a company announces capital investments because it is seen as a sign of financial health.
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