This is an excerpted chapter from The Purpose of Capital: Elements of Impact, Financial Flows and Natural Being.
Please note: As is taught in business schools the world over, “The purpose of capital is to seek its highest and best use.”
What professors mean by the phrase “highest and best use” is that diﬀerent types of capital seek diﬀerent levels of ﬁnancial return in exchange for various levels of assumed risk and liquidity lock ups. Capital’s highest and best use is to seek that combination of highest ﬁnancial return and lowest assumption of risk possible to optimize ﬁnancial returns. The thinking is that ﬁxed income—debt, bonds and various forms of lending secured by an underlying asset and ﬁrst position in the event of bankruptcy—are understood to generate levels of lower ﬁnancial gain in exchange for lower levels of assumed risk exposure. Equities (public or private) carry greater risk and therefore will seek—and deserve—higher ﬁnancial return in exchange for that increased risk exposure. In creating a portfolio of investments, one deploys a certain amount of capital into various types of investment instruments across an array of asset classes to achieve the overall returns a portfolio needs to reach the investor’s goals, some investors being more or less risk averse than others in their pursuit of total ﬁnancial returns for any given portfolio.
All of it—the notion of capital, the metrics by which we divide and track the performance of that capital, and the measures by which we assess its volatility, risk, and ﬁnancial returns—is merely a conceptual framework upon which one set of actors has come to agree and with which we all must ﬁnally come to terms. In deﬁning parameters of ﬁnancial performance, we state capital seeks its highest and best