Physical capital is one of the three main factors of production in economic theory. It consists of tangible, human-made goods that assist in creating products or services. Everything from machinery, buildings, office or warehouse supplies, vehicles, and computers a company owns falls under its physical capital.
Key Takeaways
- Foundation of Production: Physical capital is one of the three pillars of production.
- Tangible Assets: It consists of tangible, human-made items a company buys or invests in to produce goods.
- Reusable Assets: Physical capital, including manufacturing equipment, falls into fixed capital—meaning it’s reusable and not consumed during production.
Insights into Physical Capital
In economic theory, factors of production are essential for producing goods or services in pursuit of profit. There are three main factors:
1. Land, Natural Resources, and Real Estate
These include land or property where factories, shipping facilities, and stores are built, plus natural resources like the corn needed for tortilla chips or iron ore for steel production.
2. Human Capital
This involves labor and human resources—education, skills, experience—that contribute to the production process.
3. Physical Capital
Often referred to as “capital,” this includes human-made products that enable smooth manufacturing processes. Examples: welding equipment in a car factory or computers and printers in corporate offices.
Physical Capital and Startups
Startups invest heavily in physical capital at the onset, often before securing any clients. For example, a company aiming to manufacture microwave ovens must first build a factory, purchase machinery, and create sample devices before selling a single unit.
Significant investments in physical capital can be a barrier to entry for new companies, especially in manufacturing-heavy industries. For example, starting a law firm needs minimal physical capital compared to opening a manufacturing plant.
Example of Physical Capital
Physical capital is vital in a company’s valuation but can be challenging to assess. Disagreements can arise over what constitutes physical capital, e.g., is Coca-Cola’s corporate headquarters in Atlanta physical capital or real estate?
Physical capital is often illiquid and bespoke for specific purposes. For instance, the machine capping Coca-Cola bottles is of little use beyond beverage companies; its value appreciates or depreciates based on modifications, usage, and technological advancements.
Most physical capital assets are fixed—reusable, non-consumed items with long-term value that depreciates. Manufacturing equipment, for example, loses value over time and is depreciated over years.
Yet, the value of physical capital can increase with upgrades or company changes. Therefore, navigating physical capital investments decisively could lead to business growth and stability.
Related Terms: fixed capital, human capital, land, natural resources.
