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The capital intensity ratio measures how much a company invests in total assets compared to its revenue. It is calculated by dividing the value of total assets by income earned over a period. A high ratio indicates a company needs to spend more to generate revenue and may struggle to stay afloat. Comparisons should be made between companies in the same industry.
Capital intensity is a financial calculation that measures how much a company is invested in total assets versus how much it earns in revenue. It is calculated by dividing the value of his total assets over a given period of time by the amount of income he earned over the same period. What the capital intensity ratio shows is just how much capital a company employs to generate a single dollar of revenue. Like all financial reports, this one is best used when comparing companies in a single industry against each other.
Companies must try to balance how much money they spend with the house how much they earn. It seems like an obvious truth, but when it comes to businesses that handle huge amounts of cash, it can be difficult to keep track of the relationship between assets and revenues. This is important not only for the companies themselves but also for the investors who control the value of those companies. One way to measure the relationship between assets and income is the capital intensity ratio.
As an example of how this works, imagine a company accrued $200,000 of United States Dollars (USD) in revenue in just one year. Over the same time period, the value of total assets the company owns is $500,000 USD. In this case, the capital intensity ratio is $500,000 USD divided by $200,000 USD, leaving a ratio of 2.5.
In this example, the capital intensity ratio indicates that the company in question needs to spend approximately $2.50 USD for every single dollar of revenue it earns. Ideally, a company could reduce the ratio as much as possible. A company that continues to invest heavily in its assets without ultimately returning revenue in the vicinity of the amount spent will struggle to stay afloat. Such companies that have a high ratio are capital intensive and need to find a way to strike a better balance over time.
There are some caveats that should be considered when it comes to the capital intensity ratio. The circumstances of companies often determine their relationships. For example, a company just starting out will likely be capital intensive, since its business hasn’t had time to accrue large revenues. Also, companies from different industries need not be compared to each other, as their industries likely determine to some extent how capital intensive they need to be.
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