How does the capital investment work?

Capital Investment refers to money or assets which a company uses to achieve and further its business objective. Take for example when an individual or a financial institution makes an investment in a business. A sum of money is handed over as a loan or in return for a promise of repayment or a share of the profits down the road. In this sense, capital means cash. A company can seek capital investment from any sources like venture capital firms, angel investors, and traditional financial institutions. The capital is to be used to further achieve and develop its targets and ultimately, helps to increase the firms’ value. Looking at the various sectors for the last decade, renewable energy had shown a significant rise in its investment trends. The major portion of these investments is the capital for solar. Following pie-chart shows global renewable energy investments over the decade (2010-1019). Thus, it can be said that solar is a well-preferred choice for investing firms. Businesses like Distributed Energy are leveraging their expertise in this sector and providing an aggregation platform that facilitates capital investments in distributed small-scale solar projects across developing countries.

Fig 1.- Renewable energy capacity investment over the decade, 2010-2019, $bn

Another method of building capital is when the executives of a company make an investment for the business. They buy long-term assets that will help the company run more efficiently or grow faster. In this sense, capital means physical assets. This investment is done by using its own cash reserves, or by seeking a loan from a bank.

After building the capital, the next part is making capital investment decisions i.e. capital budgeting. Capital budgeting is basically allotting the capital investment funds of the firm in the most effective manner and ensure attractive returns. Capital budgeting decisions mainly focus on investing in various projects. This includes the criteria for choosing the appropriate and right projects that will ensure prompt returns, growth in the long term, firms’ value, etc. There are several measures that give an estimate of the firms’ return over several investment projects. To be able to determine specific projects’ value, the three most commonly used methods are – payback method, net present value method, and the IRR methods. Going back to the renewable sector, MNRE has given a report that analyzes the economic rates of return for various renewable energy technologies in India. It is as follows- 

Table 1.- ERR and economic NPV for various renewable energy projects.

The above table indicates small hydro and solar projects have good NPV and ERR values, making them an attractive option for capital budgeting. Lastly, most of the investment projects have characteristics like complexity, novelty, irreversibility, and ambiguity, hence it’s important to recognize and apply the strategies to deal with such issues.