What are the advantages of capital-intensive production?

capital intensive technique refers to

Technological development and economic growth have increased labor productivity, reduced labor intensity, and enabled workers to move into manufacturing and (more recently) services. A good or service in question may be produced using a technique that employs mostly labour, referred to as a labour intensive technique, or a capital intensive technique, where machinery and technology are important. 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. Fruit picking can be done using a labour intensive technique when the farm owner employs a large amount of seasonal workers to pick up the fruit. These days, fruit picking can also be done using machinery, which would be a capital intensive technique. Another example of capital intensive techniques are often found in car production.

Economics

  1. It is that technique by which more of labour and less of capital is required for the process of production.
  2. While deciding whether a business or company should go for capital intensive setup or not, a few reasons or decisions go in the process.
  3. It leverages more advanced operational insights and can accelerate decision making, as well as capture and share expert knowledge.
  4. 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.

There is no question that companies in capital-intensive industries operate in a difficult environment today. But leadership teams that commit to a bold ambition have opportunities to break away from the pack and achieve double-digit returns significantly above the cost of capital. On average, the service business of these companies grew by 9% annually between 2010 and 2014—nearly double the rate of new equipment sales (see Figure 2). No question, some asset-heavy industries such as chemicals face special challenges in rationalizing their geographic footprint. If the value of aging plants is low and labor is not a significant cost factor, for example, the one-time cost of closing and moving assets to low-cost geographies can be hard to justify using strictly financial criteria.

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. He observed that such countries should make use of their ability to draw upon the scientific and technological advancement of the more developed countries if they want to industrialize at a faster rate. Capital intensive technique refers to that technique in which larger amount of capital is comparatively used.

Capital Intensity Ratio Formula

However, having both high operating leverage and financial leverage is very risky should sales fall unexpectedly. 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 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. Supply of highly skilled labor to any industry can boost the industry growth rate.

  1. The examples of capital-intensive industries incorporate a Car Company, Gas and Oil production, Real Estate, Manufacturing Firms, Metals, Mining, etc.
  2. The capital intensity ratio and asset turnover are closely related tools for gauging how efficiently a company can utilize its asset base.
  3. The automobile, energy, and telecommunications industries are examples of capital-intensive sectors.
  4. It’s particularly important in asset-heavy industries where the one-time cost of closing and moving businesses is high.
  5. This can considerably lower overall capital cost and significantly increase returns when implemented appropriately.
  6. 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.

They search hard for merger or acquisition candidates that will add to their operating profit and fuel balanced growth. They pursue nearly as many scope deals as scale deals, moving into adjacent markets as well as expanding their share of existing markets. Most importantly, they create Repeatable Models® for identifying, evaluating and then closing good deals. What they typically find is that there are plenty of good prospects to be pursued and that the risk involved decreases with experience. Smart acquisitions can help improve performance significantly, but many companies get off to a bad start by investing at the top of the cycle, when prices are at their peak, simply because that’s when cash is available.

capital intensive technique refers to

Example of High Capital Intensive Industries

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. Also, it will more often than not have a high ratio of fixed costs to variable costs. 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 this way, underdeveloped countries can improve their industrial economy without heavy capital investment. Investing in a world-class service business can become a strategic ace, elevating a company above competitors in an environment where differentiation on products and cost is difficult to achieve. The range of service opportunities, some larger than others, will vary by industry and company. Here again, mapping profit pools can help identify the potential size of service businesses and those with the greatest returns. The promotion of a capital-intensive industry also requires a huge interest in fixed resources. Such sorts of huger investments require adequate reserve funds or savings or the ability of firms for financing the investments.

However, Solow’s calculations have been proven invalid, so this is a poor explanation. A business is considered labor-intensive if employee costs outweigh capital costs. In fact, according to Bain’s study of mergers and acquisitions, the more deals a company does and the more material those deals are to the company’s overall market capitalization, the better the returns. A Bain study of 30 companies across five industries—paper, steel, cement, aluminum and tires—shows that most companies deliver similarly low returns. The distribution of ROCE for capital-intensive industries over the past 25 years centers on a median value of only 5.4%, according to the study (see Figure 1). 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.

By using EBITDA, rather than net income, it is easier to compare the performance of companies in the same industry. Examples of capital-intensive industries include automobile manufacturing, oil production and refining, steel production, telecommunications, and transportation sectors (e.g., railways and airlines). All these industries require massive amounts of capital expenditures, also referred to as CapEx.

capital intensive technique refers to

Capital Intensity Ratio Calculation Example

As a result, capital-intensive industries need a high volume of production to provide an adequate return on investment. This also means that small changes in sales can lead to big 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. In general, seventy to eighty percent of total assets comprise fixed assets, machinery, and plants. This is the opposite of the asset turnover ratio which is also a sign of the effectiveness with which an organization is using its assets and resources for producing ROIs. Such capital intensive technique refers to types of costs have to be paid in any event no matter industry is going through a recession or not.

Advances in technology and worker productivity have moved some industries away from labor-intensive status, but many remain. Labor-intensive industries include restaurants, hotels, agriculture, and mining, as well as healthcare and caregiving. If a company is considered capital intensive, i.e. a high capital intensive ratio, the company must spend more on purchasing physical assets (and periodic maintenance or replacements).

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