Unlock Your Inner Investor: Capital Allocation for Everyone

Think capital allocation is just for CEOs and big-shot investors? Think again! Anyone can learn to strategically distribute their financial resources to maximize returns. Whether you're managing personal savings or running a business, mastering capital allocation can help you make smarter financial decisions and grow your wealth. In this newsletter, we'll break down the basics and share practical tips to help you get started. Let's make your money work harder for you!

What is capital allocation?

After paying rent/mortgage, other necessity bills, individual has choices to decide how to spend rest of money earned from salary/wages, and other income. For business, capital allocation is the choices business needs to make to decide how to spend cash generated from operations or raised from debt or equity.

 What are the choices for capital allocation?

Individuals can save money or spend money on clothes, cars, hobbies, upskill courses, children’s education, stocks/other investments, house, etc. Like people, business can make choices as below.

1. Business can keep/spend money internally

· Business can keep the cash to increase cash holding to maintain business liquidity and to reduce debt to achieve lower cost of capital, maintain bank covenant and strategy debt ratios.

· Businesses can spend money in R & D and marketing/advertising to build business brand and develop competitive advantages.

· Cash can be used to maintain or increase working capital to support cash flow or align with strategic expansion.

· Cash can be spent on capex project includes stay in business projects, expansion projects, revenue/efficiency generating/cost reduction projects.

2. Business can spend money externally

· Merge & Acquisition is a good way for business to expand vertically, horizontally or diversification.

· Shareholder dividends and share buyback. The principle is to return value to shareholders unless there are other opportunities that provide higher returns. Tax implications and business true value need to be considered here.

Why capital allocation?

People make their life more comfortable, improve their skills and value, reduce risks toward uncertainty from life and career, plan for future or retirement through proper capital allocation. For business, capital allocation is essential for maximizing returns, managing risks, supporting growth, improving efficiency, enhancing shareholder value, and aligning with strategic priorities.

How to do capital allocation?

The check list for individual people capital allocation can follow the steps below:

1. Calculate how much money is left after paying rent/mortgages, essential bills.

2. Do we have enough emergency funds (3 to 6 months’ salary) set up in case anything happens in life or work. If not, should this surplus money go to emergency fund.

3. What are my goals and priories in life and career? Should I spend money now or should I save for the future?  Should I invest in courses to upskill myself, or invest in stocks, funds, and houses?

4. What are the opportunities I can use to achieve my goals and fit in my priorities list? What the estimated result or return look like?

5. What are the risks associated with my choices?

6. Do I have enough money for this? Should I borrow money or raise funds from other people such as parents or employer?

7. Make decision on investment.

8. Monitor the progress and performance of investment. Review the investment and keep as record for future investment.

The steps for business capital allocation are similar to individual.

1. Evaluate Cash Flow: Understand the company’s cash flow situation, including operating cash flow, free cash flow, and any cash reserves. Free cash flow should exclude approved capital expenditure, replacement capital expenditure, R & M and advertising.

2. Ensure business have enough cash for next 18 weeks and business meet bank debt convenance. If not, free cash flow should go to these areas first.

3. Define Goals: Clearly articulate the company’s short-term and long-term goals, such as expansion, innovation, market penetration, or sustainability.

4. Evaluate Investment Opportunities and perform financial analysis using metrics such as Net present value, Internal rate of return, payback period, and return on invested capital.

5. Identify risks associated with each investment.

6. Funding sources: should business use free cash flow or raise capital from debt or equity?

7. Make decision and execute plan.

8. Track performance, review and revise.

9. Communicate with stakeholders.

Capital allocation isn't just for experts—it's for you. Apply the principles we've discussed to make smarter financial decisions and grow your wealth. Let's grow your wealth together!