Question

Describe the factors affecting fixed capital.

Hint:

To analyze fixed capital needs, always think about 'long-term things'. The more big, expensive, long-term 'things' (like factories and machines) a business needs, the more fixed capital it requires.

Answer 1

Fixed capital refers to the capital invested in acquiring long-term or fixed assets such as land, buildings, machinery, and furniture. The amount of fixed capital required by a business is influenced by several factors. The main factors are:

Nature of Business: The type of business is the most critical factor. A manufacturing enterprise requires a huge investment in plant, machinery, and other fixed assets, thus needing a large amount of fixed capital. In contrast, a trading concern or a service-based business operates with a much smaller base of fixed assets (e.g., a shop, office, computers) and thus requires less fixed capital.

Scale of Operations: The size of the business directly impacts the fixed capital requirement. A large-scale enterprise operating at a national or international level will need more machinery, bigger buildings, and a larger production capacity, leading to a higher fixed capital investment compared to a small-scale business.

Choice of Technique: The production technique adopted by the firm affects its fixed capital needs. A business using capital-intensive techniques (relying more on machinery) will require more fixed capital. Conversely, a firm using labour-intensive techniques will need less investment in fixed assets and thus less fixed capital.

Technology Upgradation: In industries where assets become obsolete quickly due to rapid technological advancements (e.g., computers, electronics), businesses need to constantly replace old machinery. This requires a higher amount of fixed capital.

Growth Prospects: A company with high growth potential and plans for expansion or diversification in the near future will require a larger amount of fixed capital to invest in additional production capacity and assets.

Financing Alternatives: If a business can easily acquire fixed assets on a lease or hire-purchase basis, it can reduce its immediate requirement for fixed capital. This allows the firm to use the assets without owning them, thereby lowering the initial large investment.

Diversification: A company that is diversifying its operations by adding new product lines will need more fixed capital to purchase the fixed assets required for the new business activities.