Capital Investment

A capital investment is the acquisition of a fixed asset that is anticipated to have a long life of use before it has to be replaced or repaired. Two of the most easily recognizable examples of capital investments are land and buildings. However, a capital investment is made any time that a company purchases goods that will be benefit the operation of the business, but will not be used to cover the operational costs of the business.
The financing decision
Achieving the goals of corporate finance requires that any corporate investment be financed appropriately.The sources of financing are, generically, capital self-generated by the firm as well as debt and equity financing. As above, since both hurdle rate and cash flows (and hence the riskiness of the firm) will be affected, the financing mix can impact the valuation and long-term management. There are two interrelated decisions here:
* Management must identify the "optimal mix" of financing--the capital structure that results in maximum value. (See Balance sheet, WACC, Fisher separation theorem; but, see also the Modigliani-Miller theorem.) Financing a project through debt results in a liability or obligation that must be serviced, thus entailing cash flow implications independent of the project's degree of success. Equity financing is less risky with respect to cash flow commitments, but results in a dilution of share ownership, control and earnings. The cost of equity is also typically higher than the cost of debt (see CAPM and WACC), and so equity financing may result in an increased hurdle rate which may offset any reduction in cash flow risk.
* Management must attempt to match the financing mix to the asset being financed as closely as possible, in terms of both timing and cash flows. Managing any potential asset liability mismatch or duration gap entails matching the assets and liabilities according to maturity pattern ("Cashflow matching") or duration ("immunization"); see also Working capital management, below. Other techniques, such as securitization, or hedging using interest rate- or credit derivatives, are also common. See Asset liability management; Treasury management; Credit risk; Interest rate risk.
One of the main theories of how firms make their financing decisions is the Pecking Order Theory, which suggests that firms avoid external financing while they have internal financing available and avoid new equity financing while they can engage in new debt financing at reasonably low interest rates. Another major theory is the Trade-Off Theory in which firms are assumed to trade-off the tax benefits of debt with the bankruptcy costs of debt when making their decisions. An emerging area in finance theory is right-financing whereby investment banks and corporations can enhance investment return and company value over time by determining the right investment objectives, policy framework, institutional structure, source of financing (debt or equity) and expenditure framework within a given economy and under given market conditions. One last theory about this decision is the Market timing hypothesis which states that firms look for the cheaper type of financing regardless of their current levels of internal resources, debt and equity.
The main characteristic of a capital investment is not meeting some basic current value, but the fact that the item is not required for the normal expenses associated with daily living or business operation.
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Investment has different meanings in finance and economics. In Finance investment is putting money into something with the expectation of gain, that upon thorough analysis, has a high degree of security of principle, as well as security of return, within an expected period of time.In contrast putting money into something with an expectation of gain without thorough analysis, without security of principal, and without security of return is speculation or gambling.



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