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Net investment in operating capital is a two-part analysis that looks at two different types of business activities. First, net investment represents capital expenditures less depreciation, with the latter being a non-cash expense deducted for this cash analysis method. Capital spending typically means purchases made for items such as property, plant, and equipment, which are long-term assets as defined by accounting principles. Operating capital is another term for working capital, which is the daily cash available for running a business. The net investment in operating capital looks at the net liquid or non-liquid assets a company has for its operations.
When putting these two concepts together, net investment in operating capital may represent the payments deducted from working capital for asset payments. For example, purchasing copious amounts of property, plant, and equipment on account requires payments from operating capital. Each payment made for the loans associated with long-term assets reduces the daily working capital of a company. The result is less cash to spend on the daily costs or expenses to run the business and produce goods or services. Additionally, unexpected cash expenses may be a problem with little cash left in a company’s operations, which also creates problems when stakeholders review net investment in operating capital.
Outside stakeholders are often very interested in a company’s investment in operation capital. Copious amounts of net investment in long-term assets can result a company being overleveraged, meaning it has too much debt on its balance sheet. These companies can be subject to major financial difficulties when economic times begin to falter and revenue and profits fall from lack of business. The result is often low returns on items that require fixed payments, such as loans for long-term assets. During sluggish economic times, overleveraged companies often need to take more drastic measures in order to stay financially viable through these periods.
Working capital reviews are also subject to intense scrutiny by outside stakeholders. When net investment in operating capital goes up, less working capital is available for daily business use. If a company needs a loan not related to property, plant, or equipment, low working capital may be a deciding factor that restricts the company from getting financial backing. Companies that are unable to generate sufficient working capital for loan repayment may have problems if they cannot get a loan. Short-term financial obligations take precedence over long-term financial obligations during this period.