Factors Influencing or Affecting Fixed Capital Requirement

Factors Influencing or Affecting Fixed Capital Requirement

Following diagram highlights the important factors influencing or affecting fixed capital requirement of a business. Click on image for a zoomed preview.

The factors determining, affecting or influencing fixed capital requirements of a business are briefly given in the following nine points:

1. Nature of business is the most crucial factor of all that significantly affects its fixed capital requirement.
2. Size of business has a direct relationship with its fixed capital need.
3. The availability of fixed capital impacts the scale of operation.
4. Modern technologies demand more fixed capital than traditional ones.
5. Manufacturing of complex products need more fixed capital than what amount is required for making simple products.
6. The scope of activities determines fixed capital needs of a business.
7. The method of acquiring assets for business use influence it.
8. The allocation of subsidy by government also has an influence on it.
9. Along with above eight main factors, other minute considerations like the lifetime of assets, annual maintenance costs (AMC), sustainability of sensitive projects, stages in development of a business, etc., also influence the fixed capital requirements to some extend.

Now let's focus individually on above-mentioned points highlighting factors affecting the requirement of fixed capital.

1. Nature of business

The amount of fixed capital required by a business depends on its nature, kind or type of activities it conducts.

Generally, manufacturing companies, transport companies and public utilities require more contributions of fixed capital to initiate their business activities.

Examples of organizations that need more fixed capital to initiate (start) their business activities are:

1. Companies involved in manufacturing automobiles, textiles, electronic equipment, etc.
2. Companies mainly engaged in processing, refining and mining activities.
3. Companies engaged in providing transport facilities via roadways, railways, waterways, and airways.
4. Public-utilities that supply basic amenities like water and electricity.

2. Size of business

The size of business can be either a large, medium or small.

The five important parameters that are usually considered while evaluating the size of business are:

1. The turnover (sales) of a business.
2. The total number of employees employed in a business.
3. Capital invested in or contributed to the business.
4. Comparing the profit made by a business unit with its active competitors.
5. Comparing the market share of a business.

The size of a business is directly proportional to its fixed capital requirement. That is, a large-sized business entity always needs more fixed capital to carry on its business activities than a medium and small-sized business unit.

3. Scale of operation

The term ‘scale of operation’ usually signifies the volume in which a production occurs followed by its successful sale in the market.

The scale of operation depends upon the total amount of fixed capital held by a business unit. Generally, the scale of operation will be large if availability of fixed capital is more, and vice-versa.

Thus, scale of operation is affected and influenced by fixed capital.

4. Use of technology

The technology used and/or implemented by a business unit also affects its fixed capital requirement. Though modern technologies are innovative in nature, they are often costlier to implement than traditional ones. Furthermore, skilled and professionally trained manpower is required to operate and maintain these technologies. Overall, this demands more fixed capital investments from a business.

For example, companies using modern technologies require more fixed capital whereas labour-intensive companies require less fixed capital.

5. Type of products manufactured

Product is a saleable outcome of a series of a production-process. Every product has some utility in it that aims or tries to satisfy its end-user's needs.

The amount of fixed capital required also depends on the type of product manufactured.

For example, if a company manufacture complex products like automobiles, then it will need more fixed capital. Conversely, if a company manufactures simple products like paper clips, it will need fewer amounts of fixed capital.

6. Scope of activities

Scope of business is the maximum extend up to within which a business can act or perform its business activities.

If scope of business is vast, it needs higher fixed capital. For example, a company involved in multiple activities like manufacturing, processing and assembling usually needs substantial amount of fixed capital.

Similarly, if scope of business is limited, then it requires less fixed capital. For example, if a company does only assembling activities, it needs fewer amounts of fixed capital.

Thus, the scope of activities of a business also affects or determines its fixed capital requirement.

7. Method of acquiring assets

Method of acquiring assets means specific way adopted to take possession of assets for a business use.

Generally, the assets are acquired on a:

1. Rental or lease basis - It is the most commonly used method.
2. Installment or loan basis - It is moderately used method.
3. Direct purchase basis - It is a rarely used method.

The required fixed capital also depends on the method used for acquiring (getting the possession of) the assets. For example,

1. If company gets its assets on a lease (rent) basis, it will require less fixed capital.
2. If company purchases its assets on an installment (loan) basis, then it will need less fixed capital at the beginning.
3. If company makes full payments initially, it will require more fixed capital.

8. Government subsidy

Government subsidy is a financial assistance allocated to needy companies on certain terms and conditions as framed by the concerned government.

The companies operating in backward (less developed) areas usually get a government subsidy (concession) for purchasing land, plant and machinery, and other fixed assets. That is, companies purchase their fixed assets for a subsidised price. Hence, they need less fixed capital for their business.

However, companies operating in developed areas usually do not get a government subsidy. They need more fixed capital to run their business.

9. Miscellaneous factors

Finally, miscellaneous factors determining the fixed capital requirements of a business are randomly (not in an order of importance) listed as follows:

• Lifetime of an asset, for example, those of a machine, computer, automobile, etc.
• The annual maintenance costs (AMC) charged by vendors on their customers.
• The sustainability of highly sensitive projects, for example, construction of a dam, bridge, nuclear reactor, satellite tower, etc.
• Stages in development of a business also affect its fixed capital need.