Capital Injection Meaning in a Nutshell
So, business’s require money and when you externally pump in capital to fund a project, expansion to facilitate growth then that’s called as capital injection.
Which can be done at any stage of the business. Usually a common misconception is that capital injection is only with start up or distressed business’s. However, capital injection has nothing to do with the stage of any business. Moreoever capital injection can be in the following forms;
- Initial public offering
- Debt
- Venture equity
- Angel equity etc.
Capital Injection by Governments
So, for the sake of the discussion think about all the financial crisis that have happened till date. What do you see in this crisis, apart from ofcourse the markets crashing. Firstly, you see capital injection from sovereign goverments in the form of;
- Bail out
- Increasing liquidity in the market
- Cheap government debt
Situations when required
There can be multiple situations where capital injection might be required but let me take you through some live examples.
Expansion Capex
Let’s suppose there is a consumer discretionary company in India, and now wants to scale up its operations. The scaling up would be mean that the cost per unit drops, while selling price remains constant. Which makes the margins increase. So in order to that the company needs to invest INR 500. The company has approached the bank for the capital.
Spanish Bailout
In 2012 almost a 100 billion euro bail out had to be funded by the European stability mechanism to bail span out. This was caused by Spains housing bubble which had crashed after the government neglected the violations of accounting standards by real estate companies. This is yet another example of capital injection.
The good, bad & Ugly
You might think that more is better and better is always good. However, rarely has it happened in the past where more capital has resulted in more growth. Infact when the capital is easily available, prudence takes the back seat. Which causes misutilization of resources. While that being true, not having enough capital even when expanding with prudence is bad. Because it means you lose out to the competitors who are able to expand, scale and beat you in the game in the process.
Types of Investors
When it comes to capital injection companies either look for a financial or a strategic investor. While the former is pure capital relationship the latter is related to finding business parallels.
While strategic investors can provide the resources needed including expertise in the field, but the disadvantage is that they would ofcourse interfere in operations. Conversely, financial investors might not be interested in operations but may have duration commitment. Which means capital injection is much more complicated decision than just raising money.
Key things to consider before capital injection.
Now let me summarize everything under one broader topic on key things to remember while infusing more capital
- What is the amount of capital?- if the capital requirement is low then may be raising it among friends and families is a better option
- The stage- Do you really need capital at your stage? Or is your business’s not sustainable. May be raising capital won’t solve the business fundamentals
- What type of alliance you need?- do you need a mentor along with the money or just the money.
- Tax implications- Which mode of raising will you give you the best tax benefit.
- Covenants- What restrictions are you going to make for yourself while raising this capital.
- Exit strategy- Is there a clear plan on how you want this investor to exit from the business.
Frequently Asked Questions
What is capital injection?
Capital injection is nothing but raising or supply of capital for the expansion of any business in the future. Which will create better returns in the future
What are the applications of it?
There can be numerous applications of capital injection like expanding the capacity of a factory plant, starting a new division or products, reviving a bankrupt company.