Role of Fixed Capital in Business Enterprises
Fixed capital plays a very important role in the establishment of business enterprises. It is necessary for acquiring fixed (tangible and intangible) assets, which is the beginning condition for starting a company. The management of fixed capital or investment or capital budgeting decisions are important for the following reasons:
(i) Long-term growth and effects: These decisions have bearing on the long-term growth. The funds invested in long-term assets are likely to yield returns in the future. These affect future possibilities and prospects of the business.
(ii) Large amount of funds involved: These decisions result in a substantial portion of capital funds being blocked in long-term projects. Therefore, these investment programs are planned after a detailed analysis is undertaken. This may involve decisions like where to procure funds from and at what rate of interest.
(iii) Risk involved: Fixed capital involves investment of huge amounts. It affects the returns of the firm as a whole in the long-term. Therefore, investment decisions involving fixed capital influence the overall business risk complexion of the firm.
(iv) Irreversible decisions: These decisions once taken are not reversible without incurring heavy losses. Abandoning a project after heavy investment is made is quite costly in terms of waste of funds.
Therefore, these decisions should be taken only after carefully evaluating each detail or else the adverse financial consequences may be very heavy.