Physical capital

Physical capital (realkapital) is a form of capital made up of tangible things such as machinery, buildings, tools and other assets used in production processes. Together with labour and natural resources, physical capital is regarded as one of the classical factors of production in economics.

What does physical capital consist of?

Physical capital covers the non-current assets businesses own for lasting use, among them:

• Buildings (offices, factories, warehouses)
• Machinery (production equipment, vehicles)
• Tools and necessary equipment
• Raw materials held in stock for production

In the accounts, physical capital is distinguished from intangible assets, such as patents and trade marks, and from financial capital, such as shares and bonds. Physical capital is recognised as non-current assets in the balance sheet, since it is intended for lasting ownership and use in the business, not for resale.

Physical capital and depreciation

Physical capital wears out or loses value over time, and is therefore depreciated over its expected useful life in the accounts. Depreciation spreads the cost of the investment across the years the asset is in use, rather than charging the whole cost in the year of purchase.

Example: A business buys a machine for NOK 500,000 with an expected useful life of 10 years and no residual value. With straight-line depreciation, 500,000 / 10 = NOK 50,000 a year is charged as a depreciation cost in the profit and loss account, even though the whole amount was paid out of the cash balance when the machine was bought.

The liquidity of physical capital

An essential characteristic of physical capital is low liquidity. Converting physical capital into cash can be time-consuming and difficult, for example when selling a factory building or a specialised machine.

Examples of use

Manufacturing businesses, construction firms and agriculture are examples of businesses that use machinery, tools and non-current assets in their day-to-day operations.

Why is physical capital important?

Physical capital makes efficient production of goods and services possible. Investment in physical capital improves productivity, increases capacity and secures long-term growth. It is worth keeping an eye on your key figures to see how investments in physical capital affect profitability over time.