A business is capital intensive if it requires heavy capital investment in buying assets relative to the level of sales or profits that those assets can generate.
This means that a capital intensive business will typically have some mixture of the following characteristics:
- high depreciation costs
- high operational gearing on operating profit, but much less on pre-depreciation measures such as EBITDA
- high operational gearing on free cash flows if high capex is continuous rather than a one off "entry fee".
- high barriers to entry
- large amounts of fixed assets on the balance sheet.
Measures of how effectively assets are used, such as ROCE, ROIC and asset turnover, are therefore particularly important measures of efficiency.
In addition, because capital intensive companies have a lot of assets to fund relative to their size, they are likely to borrow more heavily (especially as the assets also provide security for lenders). This means more attention may need to be paid to balance sheet ratios such as gearing and interest cover.
Capital intensive companies may reduce the amount of capital the business needs by leasing or renting assets rather than purchasing them. For example, it is common for airlines to lease rather than buy aircraft. Retailers and hoteliers frequently enter into sale and leaseback arrangements of existing properties.
Arrangements like the above mean that a business needs to raise less capital, or can return capital released to shareholders. Using less capital increases returns on capital (using measures such as ROE). There is a price to be paid for this. Either financial or operational gearing also increases. Which increases depends on the accounting treatment required for the particular arrangement entered into.