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What are the different types of capital in business?
Why are they important?
In this article, we will break down the notion of Types of Capital so you know all there is to know about it!
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Different Types of Capital
There are different types of capital depending on your field of practice.
From an economic perspective, we can classify “capital” in the following categories:
- Cultural capital
- Economic capital
- Experiential capital
- Financial capital
- Human capital
- Intellectual capital
- Manufactured capital
- Natural capital
- Political capital
- Reputational capital
- Social capital
Anything that can potentially generate value or benefit of some kind can be considered capital.
For instance, to allow a family unit, society, or business to function, you’ll need capital (from the economic perspective).
From a business perspective, capital is what a company needs to operate, function, grow, and remain profitable.
Businesses need to use capital to produce their goods and services such as human resource capital, intellectual property capital, financial capital, and so on.
More particularly, a company’s capital assets are reported its balance sheet (current capital assets and long-term capital assets).
For individuals, if you own financial assets, you can say that you own capital as you own a particular type of asset that can bring you financial benefits.
According to Investopedia, capital is defined as follows:
Capital is a broad term that can describe any thing that confers value or benefit to its owner, such as a factory and its machinery, intellectual property like patents, or the financial assets of a business or an individual.
Now that you have an overall understanding of what capital means and the different types of capital, let’s look at each of the different types in further detail.
Types of Capital Overview
What are the different types of capital?
In this section, we will look at eleven types of capital businesses can use to create value for their customers, beat their competitors, and grow.
Cultural capital refers to the combination of tangible and intangible assets individuals gain in their lives.
The cultural capital of one country may not be the same as another and so a person’s life experience may be significantly different than another person’s.
The material goods acquired by a person along with the social experiences in their lives will form the basis of their cultural capital.
Cultural capital can include:
- A person’s behavior
- A person’s manners
- A person’s tastes and dislikes
- A person’s language
Successful companies create an internal corporate culture where their employees adhere to certain basic understandings in dealing with follow colleagues or employees, where people are encouraged to innovate, and share ideas.
Economic capital is what companies need to consider to ensure that a company can operate smoothly and in a stable manner.
In other words, a company will mitigate different types of risk (such as operational, credit, legal, or market risks) using economic capital.
If the company was exposed to a risk or liability of a kind, it could continue operations has it has considered the economic capital required in such a scenario.
Experiential capital is the knowledge that a persons acquires through various experiences in life.
The more a person tries different things, the more the person builds on their experiential capital.
Similarly, companies develop experiential capital by entering new markets, realizing that competition was weaker or stronger when a product was launched, learning of their mistakes to avoid future ones.
Companies develop their experiential capital by having their resources work on various projects, learn new skills, and share ideas.
Businesses need financial capital to launch their operations, grow, and remain profitable over time.
There are 2 types of capital considered as “financial”: debt and equity.
When you borrow money from a lender, you are looking to access financial capital in the form of debt (this money must be repaid in the future).
Debt capital includes:
- Personal loans
- Credit cards
- Bank loans
- Mortgage loans
- Term loans
- Bank overdraft
If you are raising money by selling shares of stock to investors or new shareholders, you are accessing financial capital in the form of equity (you don’t have to pay back the investment made).
Equity capital includes:
- Common shares
- Preferred shares
- Share capital
- Retained profits
Human capital refers to the notion of having skilled employees, personnel, or human resources able to contribute to a business or society.
You can’t quantify human capital on a company’s financial statements but companies can only be successful through their employees.
The more employees are happy in an organization, have the proper technical and functional skills, and perform well, the more companies will be able to better produce goods or serve its clients.
Companies look to have employees and resources that can, together, provide it with:
- Technical skills
- Problem-solving skills
- Decision-making skills
Intellectual capital refers to a person’s knowledge, expertise, or competency.
To build intellectual capital, many go to school to get the proper education in their field of choice.
Then, once school is over, they will continue building on their skills on the job through hands-on experience and by continually getting trained.
Companies also refer to their “intellectual capital” by referring to the overall knowledge and skills of their employees.
For example, Google can boast of having great intellectual capital as it has the ability to pay and attract the best talent from the world.
Manufactured capital, also referred to as constructed capital, refers to what materials and objects businesses use allowing them to create value.
Manufactured capital can include:
In essence, manufactured capital is tangible assets used by a company to enhance its operational efficiency or make better use of its resources.
A company can build manufactured capital internally or use capital to purchase manufactured capital created by other companies such as:
Natural capital refers to the resources available to us on earth from various sources like minerals, plants, soil, and animals.
Many companies need raw materials to produce goods or create what they need to create.
This means that they’ll need to tap into the natural capital by acquiring land, machinery, equipment, or other tools to help them make use of nature’s capital.
Natural capital is used in construction, technology, healthcare, and countless other fields.
Political capital refers to a company’s ability to influence others internally or externally.
You can consider political capital to be the accumulation of all the relationships formed by a company through its employees, the trust it has acquired, its overall goodwill, and influence over its stakeholders.
The more a company has political capital, the more a company will be able to create new paths and avenues to drive value.
Reputational capital refers to how the company is perceived in the market by its customers, peers, and other market participants.
Although reputation is intangible per se, companies can actually measure their reputation in capital by analyzing how they are viewed in the market.
The more a company’s reputation capital is high, the more a company will be able to successfully market and promote its products and services.
Customers tend to trust companies with higher reputational capital than those who do not have any or have a negative reputation.
Social capital is an intangible type of capital referring to the ability to form relationships in society and to build a social network.
Although this is not easily quantifiable in numbers, social capital is crucial for companies who need to ensure that their employees feel part of a “family” within the company, have a sense of belonging, create bonds and internal networks, but they should do the same externally.
The more a company is able to have an influence on others, within an industry, or a particular network, the more a company (or its employees) will build social capital.
Individuals with high social capital are more likely to be successful in their projects as they can influence others more easily and work with others to use their strengths and weaknesses.
Types of Capital In Business
If we focus on the meaning of capital for companies and businesses, there are 4 types of capital used by companies:
- Debt capital
- Equity capital
- Working capital
- Investment capital
A company’s balance sheet will provide us with a company’s capital structure where you can see how a company utilizes its assets to operate its business.
The balance sheet provides a company’s total assets in relation to the company’s total liabilities and total equity.
In some cases, a company will need to raise cash by selling shares of stock (equity capital), or borrow money (debt capital).
To keep the business going, companies need to fund the working capital accounts to ensure they can meet their day-to-day financial obligations.
To grow, businesses need to make investments to generate a return.
Let’s look at each of these further.
One way to acquire capital assets is to borrow money.
By borrowing money, businesses can inject the funds they need to invest in their business such as purchasing a new plan, hiring skilled resources, creating a product, and so on.
Large companies can issue bonds to raise the capital they need to fund their business operations.
The more traditional way for borrowing money is to obtain a loan from a traditional bank.
Small companies and start-ups that do not have a good credit history may borrow funds from their family, friends, or alternative lenders.
Businesses can also get capital by tapping into their equity capital.
One important method available to corporations to raise cash is to sell shares of stock.
Typically, new businesses and start-ups who need access to a lot of cash to kick-start their business operations will sell shares to venture capitalists and investors as a means to raise money.
The tradeoff here is that when you sell equity securities, you are effectively selling a part of your business.
Eventually, if the start-up is successful and becomes profitable, it can raise further capital through an initial public offering (IPO) which is the listing of the company’s stocks in the stock market.
Eventually, as a public company, further shares of stock can be sold to the public and raise capital on an as-needed basis.
Investment capital, also referred to as financial capital, refers to financial assets needed by a company to product goods and to grow over time.
A company can determine its immediate investment capital by looking at how much cash it has available to it in profits, its cash flow, and other resources immediately available to it.
If the company has enough to invest in the assets it needs to further grow, then it will use its available investment capital.
Otherwise, a company can look at borrowing money, selling shares, going public, or raise capital in another way to enhance its investment capital.
A company needs to keep “working capital” to fund its day-to-day business operations.
Companies have to pay rent, suppliers, vendors, employees, lenders, and so on.
To ensure that it keeps enough cash on hand to pay its short-term financial obligations, companies keep cash and cash equivalents on hand for this purpose.
Companies need to find the right balance of working capital to maintain so they adequately cover their debts, accounts payable, and other obligations (generally due within a year) without leaving too much cash uninvested.
Capital Vs Money
What is the difference between capital and money?
Although the two terms may be used interchangeably at times, capital and money do not mean the same thing.
From a financial perspective, capital is something that can bring value in the future.
For example, if a business wants to grow, it must invest in capital assets.
General, capital comes at a cost where you need to assume a cost or risk to build capital.
On the other hand, money is what is used to trade with another.
Money is the currency used to buy capital.
The more money you have, the more you can acquire assets that can help you build further capital.
If you refer to money in a bank account, you can consider that to be an asset as well.
Type of Capital Takeaways
So what does “Types of Capital” mean?
Depending on your field of study, you may say that there are 3 types of capital, 4 types, or 5 types of capital.
In this article, we’ve looked at listing out all the different types of capital relevant to businesses (so we considered things like the different types of capital investments, capital in economics, capital in accounting, and so on).
One can argue that the three main types of capital are financial capital, human capital, and natural capital.
In this article, we’ve identified 11 types of capital relevant to businesses and have broken them down so you can see how important they are.
Let’s look at a summary of our findings.
Understanding Types of Capital
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