The long-term capital investment cycle occurs when the large capital assets of a company go through the entire duration of their lifespan. Capital investments are usually a sizable investment in dollar value, as well as sometimes even in physical size.
The long-term capital investment cycle contains many smaller operating cycles of components or other pieces of machinery that exist within the original capital investment. There are many ways that it can manifest. Below, we see a simplistic diagram of how capital moves through the investment cycle.
Opening Your Factory: The Long-Term Capital Investment Cycle
Let’s say that you are the owner of a medium-sized business that develops and manufactures tennis rackets. You enjoyed several great years of profitability and are actively looking to expand your product line and operations. You realize that the current factory that you own is at capacity, and instead of attempting to outsource or contract out manufacturing, you decide to invest in the creation of a new factory to increase your manufacturing capacity.
Congrats! You’ve entered a major phase of the long-term capital investment cycle. The large capital expenditure will likely take place over many years while the factory is built. It does not stop there, however. The machinery needed to make the factory work like a manufacturing facility is also a part of the long-term capital investment cycle. The machines inherently come with shorter operational cycles, all of which make up the capital investment cycle.
In the case of our example, they can be assembly lines, plastic manufacturing machines, as well as different tools and dye pieces required to make the factory operational. All the machines will come with various operational cycles that exist within the larger capital investment cycle; that is, the manufacturing of a factory.
Risks within the Long-Term Capital Investment Cycle
Because of the very nature of a large capital expenditure, it may require a company to take on more leverage or divert a significant amount of its assets away from other operations. It can present a risk for a smaller company in terms of liquidity and the overall financial position of the company.
Since capital expenditures, such as building a new factory, are cash-intensive and require a lot of time to see a return on investment, it can present some short-term risk if the economy were to enter a recession.
Adverse market conditions present a large risk component for any company when deciding on the contents of a long-term capital investment cycle. Even larger companies need to be cautious that they do not invest too much in setting up operations globally too quickly; a pitfall many retailers fall into.
Now that you understand what the long-term capital investment cycle is, we can better understand that when we understand the smaller operational cycles within a larger operational cycle, we, as managers and business decision-makers, are more empowered with another tool in our belt.
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