What Is Fixed Capital?

What Is Fixed Capital?

Let me explain fixed capital to you directly: it's the money you've invested in fixed assets or those long-term items a company needs to get started and keep running, like property, plant, and equipment (PPE). These assets are fixed because they're not used up or destroyed when you produce goods or services; they hold reusable value.

You'll see fixed capital in economic theories and business accounting. In accounting, it's a key metric for gauging a business's financial health. These investments get depreciated on the books over long periods—up to 20 years or more. Compare that to working capital, which handles the short-term funds and assets for everyday operations.

Key Takeaways

Understand this: fixed capital is about money put into fixed assets. Those assets aren't consumed or destroyed in production and can be reused multiple times. Standard examples include property, plant, and equipment. These are usually illiquid and lose value through depreciation over time. In accounting, it stands apart from working capital, which funds daily expenses with liquid assets.

Understanding Fixed Capital

The idea of fixed capital dates back to the 18th century with economist David Ricardo. For him, it meant any physical asset not used up in production, unlike circulating capital such as raw materials, expenses, and labor. In Marxian economics, it's tied to constant capital.

Fixed capital is the part of a business's total capital spent on physical assets like factories, vehicles, and machinery that stick around almost permanently—or at least for more than one accounting period. You can buy these outright or lease them long-term.

On the flip side, circulating capital is what's consumed in production: raw materials, labor, operating costs, and so on. Marx noted that the distinction is relative, based on turnover times of assets. Fixed capital does 'circulate' too, but over much longer periods—years or decades—until it's worn out and salvaged. You might resell or reuse a fixed asset anytime before its life ends, like with vehicles or airplanes.

Contrast fixed capital with variable assets, whose costs and levels shift with output scale. Machinery is fixed because it stays regardless of production levels, while raw materials vary with output. In accounting, it's also set against working capital for covering daily operational costs.

Fixed Capital Requirements

The fixed capital you need to start a business depends on the specifics, especially the industry. Some sectors demand a lot of fixed assets—think industrial manufacturers, telecom providers, or oil explorers. Service industries like accounting firms need less: maybe just office space, computers, and basic equipment.

Production businesses might easily get inventory for goods, but acquiring fixed capital takes time. Generating funds for big buys like new facilities can be lengthy, and securing loans adds more delay. This raises risks of financial losses from low production if equipment fails without backups.

Important Note on Procurement Time

Keep this in mind: in certain industries, procuring fixed capital can take a long time, increasing the risk of losses if your company lacks redundancy for equipment failures.

Depreciation of Fixed Capital

Fixed capital investments don't depreciate evenly as shown on income statements. Some lose value fast, others last almost forever. A new vehicle drops in worth right after you drive it off the lot, while a company building depreciates slowly.

The depreciation method gives you a rough idea of how much value these investments add to current company performance.

Liquidity of Fixed Capital

Fixed capital holds some value, but these assets aren't very liquid. That's because of limited markets for items like manufacturing equipment, their high prices, and the long time needed to sell them.

What Is the Difference Between Fixed Capital and Working Capital?

Fixed capital is money in long-term assets, while working capital is the cash and liquid assets for daily operations like paying bills or payroll.

What Is an Example of Fixed Capital?

Since fixed capital involves long-term assets not consumed in production, a classic example is property, plant, and equipment (PP&E).

How Much Fixed Capital Do I Need to Set Up a Business?

It varies by business type and industry. High-fixed-capital needs hit manufacturers with factory equipment, while service firms like accounting need basics like office gear.

The Bottom Line

Fixed capital is essential for any business, though its form changes by company and industry. Every industrial operation needs land, buildings, and major equipment to start and sustain long-term. It supports indirectly over time, unlike working capital for short-term needs like operations and payroll. Both metrics help analyze financial health.