Capital intensive Methods of production Higher Business management Revision BBC Bitesize

Capital-intensive businesses are also sensitive to fluctuations in sales. A capital-intensive business requires a large amount of capital to operate. A labor-intensive business needs a significant amount of labor to operate.

The term “capital intensive” refers to business processes or industries that require large amounts of investment to produce a good or service. As a result, these businesses have a high percentage of fixed assets, such as property, plant, and equipment (PP&E). Companies in capital-intensive industries are often marked by high levels of depreciation. In finance, the term “capital intensive” refers to industries that require significant investment in physical assets to produce goods and services.

• Capital-intensive businesses require significant amounts of capital to operate successfully.
• This also means that small changes in sales can lead to big changes in profits and return on invested capital.
• Capital intensive refers to industries or businesses that require significant amounts of capital to produce goods or services.
• Here, because of lower labour costs and higher productivity, the net output per unit of capital may be comparatively higher.” Capital intensive technique has been shown in diagram 2.

A Capital Intensive company will often show a significant amount of fixed assets on its balance sheet. This is because the capital used in their production process is often composed of long-term, durable goods. The finance term “Capital Intensive” is important because it refers to industries or companies that require significant amounts of money, physical assets, or investment in infrastructure to produce goods or services. When it comes to capital-intensive firms, it is important to understand they utilize a great deal of financial leverage, as they can involve plant and equipment as the collateral.

a. High Initial Investment

You will just need to hire engineers and hence, the main upfront expenses will be their compensations or salaries. Some of the common examples of such industries can be transportation sectors such as airways, railways, waterways that need loads of investments in purchasing the transportation medium or creating the transportation medium. Industries with high capital requirements are often foundational to the global economy. The aerospace sector, for example, demands large investments in research, development, and the production of sophisticated aircraft and spacecraft. Companies like Boeing and Airbus spend billions annually to innovate and manufacture advanced fleets. Capital intensity refers to the weight of a firm’s assets—including plants, property, and equipment—in relation to other factors of production.

Major Sectors With Elevated Capital Requirements

Prof. Paul Baran has the strong opinion about the necessity of using the capital intensive in less developed countries. Capital-intensive firms generally use lots of financial leverage, as they can use plant and equipment as collateral. However, having both high operating leverage and financial leverage is very risky, should sales fall unexpectedly. Capital Intensive refers to the business processes or industries that require large amounts of investment to produce a good or service and are typically characterized by high levels of depreciation of plant and machinery. The primary purpose and use of assessing whether a company or sector is capital intensive is to understand the scale of financial resources required for its operations and the nature of expenses.

The choice of depreciation method—straight-line or accelerated—can influence financial statements and perceived profitability. Another way to measure a firm’s capital intensity is to compare capital expenses to labor expenses. For example, if a company spends $100,000 on capital expenditures and $30,000 on labor, it means the company is most likely capital-intensive. Likewise, if a company spends $300,000 on labor and only $10,000 on capital expenditures, it means the company is more service- or labor-oriented. Multiple reasons and decisions go into whether the company should be capital intensive. There are businesses where initial high capital is not a choice (utilities, power, automobiles), and there are businesses where high capital intensive nature is a choice (streaming, software, etc.).

All in all, analyzing the power that a company has and the capacity it has to keep the market share will help in understanding how capital intensive a business or project ought to be. The Asset Turnover Ratio (ATR) evaluates how efficiently a company uses its assets to generate sales. For example, a company with $400 million in sales and $200 million in average total assets has an ATR of 2.0. The telecommunications industry also requires significant capital outlays, particularly for infrastructure development. The deployment of 5G networks has driven companies to invest heavily in fiber optic installations and advanced network equipment.

These businesses or companies suffer misfortunes or losses at first yet over the long run, these companies or businesses acquire higher profits. But the gamble or risk included in such industries is additionally higher, thus the competition is impressively low. Return on Capital Employed (ROCE) measures profitability and the efficiency of capital use. It is calculated by dividing earnings before interest and taxes (EBIT) by capital employed, which includes shareholders’ equity and debt liabilities. For instance, a company with $50 million in EBIT and $250 million in capital employed has a ROCE of 20%. Automated productions is when the production process is mainly carried out by machinery/robots and is mostly controlled by computers.

Economic problem arises due to

In this case, greater amount of labour is OL This shows that the technique is labour intensive. By using EBITDA, a non-cash expense, instead of net income in performance ratios, it is easier to compare the performance of companies in the same industry. We all know that all kinds of businesses need funding or capital to run and manage the business, but a capital-intensive business is estimated in light of the capital invested by it in buying the fixed assets. It is characterized as the capacity of the business or company to put investments into fixed assets or resources.

Labour intensive technique has been illustrated with the help of diagram I. In this diagramme, isoquant Q shows the initial level of output which is being produced by using OL labour and OC amount of capital. With the adoption of new technology a higher level of output is represented by the isoquant Q1; can be produced by the same amount of capital i.e.

Market dynamics, such as competition and consumer demand, further impact capital intensity. In competitive markets, firms invest in advanced production facilities to achieve economies of scale and lower per-unit costs. The automotive industry illustrates this, with manufacturers adopting automated assembly lines to improve efficiency and respond to changing consumer preferences. Sectors like energy and utilities face stringent environmental and safety regulations, necessitating costly compliance investments.

Investment

In case you are a utility service provider who wants to set up a plant for offering electricity, then for this, you will be required to build either wind, coal, or nuclear power stations. Additionally, such industries can prompt lower costs and higher wages that cause an optimized interest for a more assortment of services. Nonetheless, the growth of more capital-intensive industries creates new types of job opportunities like jobs in AI, software design, marketing, etc. Boosted capital intensity can be a reason behind the job of a few workers since they are will not be generally required after the advancements. Frequently the specialization takes place because nations were quick to produce and profited from their capital intensity.

For example, manufacturing, utilities, and transportation are often considered capital-intensive industries since they require large facilities, expensive machinery, and equipment. Investment in technologically complex devices or materials, as well as assets like real estate, also creates a capital-intensive environment. Mechanised production is when the production process requires both machinery and humans. Machines are required to carry out most of the work although they are operated and controlled by humans. While deciding whether a business or company should go for capital intensive setup or not, a few reasons or decisions go capital intensive technique refers to in the process.

• Capital-intensive industries play a crucial role in economic development by driving innovation, creating jobs, and supporting infrastructure growth.
• These businesses or sectors need a substantial amount of assets, machinery, or equipment to generate their output.
• Also, it will more often than not have a high ratio of fixed costs to variable costs.
• Such types of costs have to be paid in any event no matter industry is going through a recession or not.

Economic problem arises because:

These industries typically have high initial costs and ongoing expenses related to maintaining and upgrading their capital assets. In simple words, it is a production process that requires a high level of investment in fixed resources (machines, capital, plant) to deliver. Such a production process will have a moderately low proportion of labor input and will have higher labor productivity.

Capital-intensive businesses will quite often have higher degrees of operating leverage that can be understood as the ratio of fixed costs to variable costs. Therefore, such industries need an optimized volume of production to give a sufficient ROI. It additionally implies that little changes in sales can prompt huge changes in profits and return on invested capital. While winding up this post, it is clear that capital intensive refers to those businesses or companies that invest more in capital resources or assets.

What Is the Meaning of Capital Intensive in Finance?

Before formulating any decisive opinion on the important question, let us study the arguments for and against each of these techniques. In this diagram isoquant Q represents the initial .level of output, using OL amount of labour and OC amount of capital. With the introduction of new technique a higher level of output is shown by labour (OL) but with greater dose of capital (OC1). Therefore, capital intensive technique is using more capital with the same amount of labour.

The more a Capital Intensive business can produce, the lower the cost per unit of the product becomes. This is an example of economies of scale and is particularly prevalent in Capital Intensive industries. Hitesh Bhasin is the Founder of Marketing91 and has over a decade of experience in the marketing field.