Capital investment definition
/What is a Capital Investment?
A capital investment involves the purchase or construction of long-term assets. These assets are expected to be used over a prolonged period of time, either to produce more goods or services, or to increase the efficiency with which goods or services are produced. Some portion of the funds involved in a capital investment may also be needed to increase the available level of working capital, which is needed to support ongoing operations.
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Sources of Capital Investment
Capital investment can take the form of debt, equity, or a mix of the two. It can come from a variety of sources, including angel investors, venture capitalists, lenders, and public offerings of securities. The amount of capital investment is usually planned for well in advance through the annual budgeting process, though smaller investment amounts may be allowed at the local level with little advance warning, in order to respond more quickly to local conditions.
Disadvantages of Capital Investment
There are several disadvantages associated with capital investments, which are as follows:
Cash requirements. A significant concern with capital investments is that the cash needed for them might otherwise have been used to issue dividends to shareholders. Since shareholders own the company, they may not be happy about heightened levels of capital expenditures.
Debt risk. The business may need to take on additional debt to make capital investments, which presents a risk that the funds cannot be paid back. This is a particular concern when you are not sure about whether a capital investment will actually yield sufficient cash flows to pay back the debt.
Poor use of funds. The funds allocated to a capital investment may not be used wisely, so that company sales or profits will not increase as a result of the investment. This results in a decline in the firm’s overall return on investment.