Meaning of Capital Injection
Capital Injection refers to inflow of cash, stock or even debt into project, investment or company for facilitating its growth. It simply means injecting capital that is typically in the form of cash, into company in order to fund its expenses associated with long-term growth and development. A capital injection is a lump-sum amount enabling business entities to grow, stabilize or refinance without having any negative influence on their operations. The word ‘injection’ in this term, oftenly implies funds received by companies in state of financial distress. However, it also covers each and every type of capital investment, even including the one meant for start-up or growing companies.
In private sector, the capital injections are done by investors in exchange for equity stake via holding investments in company. It can occur at any phase of business life due to multiple reasons such as funding of start-up, growth, distress, bailout funding or initial public offerings. A private entity in its growth phrase looking for financing its momentum can choose to open a series investment round or it can even assume debt, both of which are covered under capital injection. Also, a mature company going public and earning money by issuance of shares is also capital injection. Apart from this, there are other ways too of receiving capital injection. Manytimes, capital is even injected by government into struggling sector in order to stabilize them for public welfare. An equity share is negotiated by government into recipient entities in return for capital funding. Overall, the capital injections are never free whereby company usually give up equity to injectors and sometimes even board seats or controlling interest are given up by them.
Needs of Capital Injection
The distinct scenarios where business is likely to need capital injection are explained below: –
Survival in first year
Most of the new companies commit their biggest mistake during initial year of their operation. It is because many of their decisions are just based on trial-and-error basis due to their inexperience. Out of this, some processes prove beneficial while many remains destructive to them. Therefore, extra amount of capital is needed in order to cover up such expenses, especially when generation of profit during this period seems to be very unlikely.
As a result of this, there will be heavy dependency on equity by business organizations in their first year of operation. But as equity may be intangible, there is a need of tangible capital in order to maintain the continuity of business operations. Therefore, presence of back-up funds that is readily available from closed sources, be it your own savings or loan from friends is much required.
Low credit score
A business entity is simply an extension of its owner in financial and legal terms. If owner have lower credit score, then it would be very difficult for business to acquire any type of loan. The reputable banks existing in market checks credit score at first instance and won’t be comfortable in lending short-term capital to entity. That is why, it is quite important to maintain good relations with trade creditors wo can arrange working capital at a moment’s notice.
Immediate or unexpected expenses
The unexpected or immediate expenses are faced almost by every type of business organization as they operate in unforeseen market environment. A company may encounter some mechanical issues in their working machinery or client raising their order at last minute. All this requires business to incur extra expenses in buying extra materials or taking services of mechanics for fixing machinery. Most of the small business create and maintain emergency fund on regular basis for meeting such instances.
Introducing new range of products
Every business wants to grow and become successful for which at some point of time, they wish to diversify their range of product offerings. This requires huge amount of additional cost as they need to invest in new materials or technology and cover up the R&D cost. The new products may provide healthy returns to business in future, but that is possible only if costs associated with them are covered in short-term.
Upgradation of services
The upgradation of products or service level as per market requirements is needed for maintaining the customer’s loyalty. If required updates are not done to product from time to time, then it will become stagnate and fall behind offerings of competitors. Updates are majorly dependent upon market trends and need, and can take place at any point of time. Therefore, it is must to have quick access to working capital for discovering and bringing improvements in product.
Hiring and retaining right talent
People are considered as most valuable asset to any business entity. The absence of right available talent in running business will not enable in attaining both good productivity as well as profitability. However, top talent always come with prime fees. Settling with something less is equivalent to comprising the business ambitions as lost-cost talents will lead to low-quality output that is bad for business. Availability of extra capital will help in maintaining competitive salary packages for working people by business enterprise.
Funding the marketing campaign
A business is unable to sell its products unless and until peoples are aware of its existence in market. No matter how good quality of products are provided by company, it will eventually end up with shutting its operations if people are not knowing about its presence. Marketing and brand relevance is everything in today’s time that comes with huge cost. Therefore, extra capital is useful for business entities struggling to boost up their sales volume as they need to run a well-planned, targeted and multi-platform campaign.
Example of Capital Injection
In year 2008 and 2009 after the financial crisis, the United States government injected around 700 Billon US Dollars into their financial institutions, insurance companies and automakers that were almost to collapse because of fund’s deficit. Such capital injection was made with the aim of halting conflagration that was threatening to engulf world economy. Few of the firms that received capital injection were expected to pay back debt to government, however all of the recipients were not financially sound to do so.
There are also many international financial institutions that were not able to recover after 2008 crisis and need capital injection on consistent basis to remain afloat. For example, the oldest commercial bank of Italy ‘Banca Monte dei Paschi di Siena’, has faced multiple cases of financial crisis. The struggling bank suffered more after UK voted to leave from European Union in June 2016. European commission responded to this via authorizing Italian government to provide capital injection to Monte Paschi Bank.