Like many youth across the nation, I’m a budding entrepreneur. Having dabbled in my fair share of small-scale tech. startups, I’ve come to realize how the different elements of a business concept, ranging from legality to design, can make or break a fledgling future fortune five hundred. Often, a company’s capital serves as this determinant. It’s important to realize that capital does not necessarily refer to money; rather, it is an umbrella term used to encompass all aspects of a business that provide worth. So, the question I’m venturing to answer is simple: what is the most important form of capital?
What are the basics of capital? George Mundstock of the University of Pennsylvania Law Review explains how businesses often classify their capital into tangibles and intangibles1. Tangibles include financial, resource, and human capital, while Intangibles include intellectual property and brand recognition power. The list continues into a seemingly endless spiral; however, the aforementioned five are generally regarded as the most influential and important when it comes to success.
Tangibles are those bits and pieces that most people associate with a typical business? In layman’s speak, they are what an entrepreneur pulls from his tool belt to build a sturdy foundation. For quick economic-based definitions, consult investopedia.com; it’s a clear and generally reliable resource. The first, Financial capital, in its simplest form, is money. Resource capital is the land, housing, and technology you can buy with said financial capital, and human capital is the size, efficiency, and ultimate effectiveness of the employed labor force.
Intangibles are named as such because they are literally intangible. Intellectual capital includes copyrights, patents, trademarks, and business methodologies (how a company uniquely goes about its work). Interestingly enough, intangible assets, unlike their tangible counterparts, are subdivided as indefinite or definite depending on whether the asset has an unlimited (or at least seemingly indefinite) lifetime, or that which is defined to a constrained and limited lifetime.
At first glance, many assume financial resources to be the power player in determining success of a business. But I disagree. While monetary issues can influence various courses of action, there are numerous economic factors that explain why financial capital, and inherently resource capital, can be rendered as relatively moot in the long run. In “The Review of Financial Studies” published by The Oxford University Press, authors Fulghieri and Sevilir assume the viewpoint of Venture Capitalists planning to invest in a startup business. They explain that, while monetary success is helpful, most investing firms acknowledge and accept a universal truth about new businesses: that they usually run for 1-2 years with no financial profits whatsoever. However, what the VC firms do examine are the intangible assets and human capital for that is what they can interact with most, and often offer the most holistic view of the company they are investing in.
Why is this study such a critical point? Well, when growing businesses want to secure a strong hand in the market, most companies approach investors such as venture capitalists and angel investors, or they enter an incubator. In all of these scenarios, which have been proven numerous times to maximize success in the long run, investors are dependent on an evaluation of what a company offers implicitly, rather than explicitly. Non-Profit companies such as SPARK (sparkprogram.org) rely on a firm establishment of a firm triple bottom line – a purely intangible business methodology that is unrelated to profits whatsoever. Yet, these companies succeed because investors are more inclined to pour their funds into companies that offer positive externalities to society.
In essence, the answer to the capital question lies within the business mentality one chooses to follow: short term or long term. The MIT Press elaborates on these competing mindsets in its 1936 (!) Review of Economics and Statistics. The article explains, “General Business Activity, as measured by any of the composite indices, is exceedingly undulatory in nature. Periods of short-term subnormal performance…invariably gives way to renewed expansion in the future.” The business cycle is represented by a wave-like pattern; those who only envision themselves performing in the short run tend to value financial capital and human capital in the highest regard, as it brings them the quickest, yet relatively smaller returns. However, those who prefer to think big-picture, long-term goals often value the inner workings of a business, including the intellectual capital and business methodologies. Unfortunately, a greater reward requires a greater gamble, so a higher demand for corporate risk-assessment is needed.
Taxation of Business Intangible Capital. George Mundstock University of Pennsylvania Law Review, Vol. 135, No. 5 (Jun., 1987), pp. 1179-1263
Size and Focus of a Venture Capitalist’s Portfolio. Paolo Fulghieri and Merih Sevilir The Review of Financial Studies, Vol. 22, No. 11 (Nov., 2009), pp. 4643-4680
The Short-Term Business Cycle: Its Average Form and Period as Observed in the Axe-Houghton Index of Business Activity. C. E. Armstrong. The Review of Economics and Statistics, Vol. 18, No. 2 (May, 1936), pp. 62-66