The expression ‘fixed capital’ often considered to be analogous to ‘fixed assets’ denotes the employment of capital in permanent assets and other non-current assets. The fixed assets are assets of a permanent nature that the business does not intend to dispose of, or that could not be disposed of without interfering with the operation of the business.
The investment in the fixed assets is the first initial step in establishing a corporation. The investment in non-current assets is also called fixed capital. Such assets include items in which capital is locked up for a long period.
Although they do not indicate the investment in physical productive facilities, yet they are necessary for the conduct of the business and considered essential part of the capital arrangement.
They include long-term receivables, advances to subsidiary or affiliate companies, goodwill, patents, copyrights, long term investment in other companies and pre-paid expenses.
Thus the fixed assets are held by a company with the object of earning revenue directly or indirectly and not for the purpose of sale in the ordinary course of business. The fixed assets include land, buildings, plant, machinery and other fixed equipment, furniture and fixtures, vehicles, livestock etc.
Some definitions of fixed capital:
“Fixed capital is the funds required for the acquisition of those assets that are to be used over for a long period- such assets as land, buildings, machinery, equipment and tools.” -Shubin
“Fixed Capital comprises of fixed assets and other non-current assets” –F.N. Chiumiriatoo
“Fixed capital is invested in the fixed or long-run assets. The amount of fixed capital need, therefore, varies directly with the amount of fixed assets owned or used by a business.” -Wheeler
“Fixed capital is comparatively easily defined to include land, buildings, machinery and other assets having a relatively permanent existence.” -Hoagland
From the analysis of the above definitions, it is clear that fixed capital consists of investment in permanent assets which are necessary for conducting the operations and expansion of a business unit. Thus, fixed capital is used for meeting the permanent requirements of a business enterprise. It is the capital which is invested in fixed assets and non-current assets to generate profits for a company.
Importance of Fixed Capital:
Fixed capital plays a vital role in the establishment of business enterprises. It is required for acquiring fixed (tangible and intangible) assets, which is the preliminary requirement for starting a company. There are certain enterprises (manufacturing and public utilities) which cannot think of running in the absence of adequate amount of fixed capital.
Fixed capital is not only required for financing the acquisition of fixed assets, but also for initial period of its working in order to establish itself. It is also needed for making improvements and expanding the existing set up of a business enterprise. Thus, it appears that adequate amount of fixed capital is an essential pre-requisite for the success of an industrial concern.
Right from the very beginning, when the idea to set up an industrial unit generates in the mind of the entrepreneur, the initial investment is made in fixed assets, only then, enterprise will be in a position to work smoothly.
The amount of fixed capital required varies from business to business because of the following factors:
(1) Methods of handling production:
If a company is manufacturing all parts of a product, its fixed capital needs will be more, in comparison to an enterprise which is assembling parts produced by other concerns. For example, a bicycle factory which manufactures its own parts and then assembles them into a bicycle, needs huge amount of fixed capital. On the other hand, if a company assembles the parts manufactured by other firms, it will require small amount of fixed capital. Thus, the method of handling production also affects the magnitude of fixed capital.
(2) Mode of acquiring fixed assets:
Fixed assets can be either purchased or acquired on lease basis or taken on rent. In the first case, the requirement of fixed capital will be very high.
(3) Diversity of manufacturing lines:
If a company manufactures and markets its goods itself, it needs more fixed capital than a company engaged only in manufacturing a product. A trading concern buying and selling the goods produced by others will need very little fixed capital. Thus diversity of production lines also determines the fixed capital requirements.
(4) Nature of industry business:
The business enterprises engaged in rendering personal services, merchandise, commerce and trade may need very little fixed investment, while industries manufacturing heavy and capital goods are likely to invest a major part of their funds in fixed assets.
Similarly, a public utility undertaking (say, an electricity supply company, water supply undertaking or a railway company) would need heavy investment in fixed assets and equipment. Thus the nature of business determines the amount of fixed capital to a large extent.
(5) Kinds of products:
If the company is engaged in the manufacture of complicated goods like refrigerators, T.V. sets, motor vehicles, engines etc., it may need large amount of fixed capital than a business enterprise which produces simple consumer items like powder, cream, toothpaste etc. Thus the type of product manufactured also governs the amount of fixed capital.
(6) Size of the business unit:
A large scale firm requires more fixed capital than a small enterprise. The bigger the size of plant, the larger would be the amount of fixed investment. For instance, capital-intensive companies require huge amount to be invested in fixed assets as compared to labour-intensive companies.