There are many types of capital in balance sheet of business or a books company of accounts. For example: Internal Economic Capital, Human Capital, External Economic Capital, Natural Capital, Constructed Capital, Innovation Capital, Process Capital, Knowledge Capital, Organizational Capital, Structural Capital, Relational Capital, Social Capital and many more. For running any business, company or industry, two types of capital are essential. One of buying fixed assets particularly equipment, buildings and so forth. Whereas others which is required of daily operations. Let us say, Fixed Capital or Block Capital, which is necessary to buy equipment, building, tools etc. Working Capital or Active Capital, which is necessary to satisfy day to day expenditures like salary payment to employees, buying raw materials, etc. Fixed capital are linked to long term assets whereas working capital are short term assets for daily business operations.
Types of Capital:
Capital is broadly categorized as 2 types of capital they are fixed capital and working capital. Let us understand these types in more detail below
1. Fixed Capital:
Fixed capital is a concept in accounting as well as in economics, very first theoretically analysed in depths by economist David Ricardo. That it means any kind of physical assets / capital which is not used in the manufacturing of the product. Fixed capital includes capital investment plus assets – like equipment, factory, etc. which are recommended in order to start up and also carry out business. Such assets are definitely being fixed which are not destroyed however it have a reusable benefit. Fixed-capital assets tend to be typically depreciated in the company’s accounting statements over a long time period of time.
Below assets of this kind are definitely used over and over once again for several years and are commonly known as Fixed Capital.
2. Working Capital:
Working capital, also called as net working capital, it is a difference of company’s current assets (like accounts receivable, cash, raw material, finished goods, etc.) and company’s current liabilities (like accounts payable, etc.). In simple words, formula for working capital is calculated as current assets – current liabilities.
Working capital actually measure company’s short-term financial capability as well as its efficiency. Formula to calculate working capital ratio = current assets / current liabilities. This indicates whether they have enough short-term assets to cover its short-term debt. A great working capital ratio is considered in the rage of 1.2 and 2.0. A ratio which is lesser as much as 1.0 means negative working capital. While a ratio on more than 2.0 might indicate that a company is not really using their assets efficiently to maximize revenue.
This below kind of expenses required to be covered. Such costs have always been commonly known as Working Capital.
- Buying Raw Materials.
- Storage Costs / Rents.
- Salary of employee wages.
- Advertisement / Promotional Expenses.
- Plant / Equipment Repair and Maintenance Costs Transportation Expenditures.
- Expenditures to cover time value between sale of goods and payment for consumers.
Characteristics / Features of Capital:
- Capital is generated by saving wealth. Capital is some sort of outcome of saving and due saving it is utilized in effective tasks as a capital.
- Capital is one of the factors to production. One has to work hard to accumulate capital. It is created gradually rather than the gift of nature.
- Capital can be easily transferred between persons, departments or even between other business entities.
- Supply of capital keeps on increasing and decreasing within businesses. It can be increased by raising funds from various sources of finance.
Here we have understood the types of capital as well as its characteristics and features of capital. The amount of fixed capital required to set up a business varies from industry to industry. Some business requires huge fixed capital (like industrial manufacturers, oil exploration firms, telecommunications providers, etc.). Whereas Service based industries requires limited fixed capital (like IT company, accounting firms, etc.). If a company’s current liabilities are more than current assets, then it may have issues to investors, paying to creditors or even it may lead to bankruptcy.
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Basic Finance Concepts For Beginners Guide
- Chapter 1: What is Finance with Examples?
- Chapter 2: What is International Finance?
- Chapter 3: Importance of Finance
- Chapter 4: Features of Finance
- Chapter 5: Source of Funds
- Currently Reading: Types of Capital
- Chapter 7: Types of Capital Market
- Chapter 8: Types of Investment
- Chapter 9: Short Term Sources of Finance
- Chapter 10: Long Term Sources of Finance
- Chapter 11: Finance Quiz – Finance Basics for Beginners
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