WHAT IS CAPITAL BUDGETING


K-BUDGETING

It’s a process of planning proposal for the investment of capital goods example; plants, machinery, equipment

Explanation

In capital budgeting we will discuss investment involving fixed assets. Capital refers to fixed assets used in the production while budgeting is a plan in which the details of the project inflows and outflows are projected. Capital budgeting is an outline of planed expenditure on fixed assets and it is on entire process of analyzing project and deciding which one is to include in capital budget.

KEY POINTS/ IMPORTANCE OF K- BUDGETING

1-      Decision based on the long term financial need of the business  OR  Fixed assets are related to long term problems

2-      Decision based on  estimates of future operating results means considerable degree of uncertainty
3-      Budget should be current and based on facts and figure.

4-      Capital budgeting decision involved in the investment of required amount of funds

It is necessary for the firm to make such decisions after thoughtful consideration. So as to result in profitable use of scare resource

 TECHNIQUES

1-      Payback period (PBP)
2-      Average rate of return ( ARR)
3-      Net present value (NPV)
4-      Internal rate of return (IRR)
5-      Priority index ( PI)

EXPLANATION

1-      Payback period is define as a the expected number of years required to recover the original initial investment or additional amount on the project for example; if A and B  are mutually exclusive the company required to project A

https://en.wikipedia.org/wiki/Mutual_exclusivity

2-      ARR is measured as the ratio of project average income to its average investment

3-      NPV is on investment proposal is the present value of the proposal of net cash flow less the proposal initial cash outflows

4-      IRR is defined as the discount rate that equate the present value of the future. Net cash flow from an investment projects will be the projects initial cash outflows

5-      PI is the ratio value of present value of future cash inflows divide present value of the cash outflow

FORMULAS

1-      PBP = years complete + Cash inflows/cash outflows

2-      ARR= average income/ average investment

Average income= net profit/ years

Average investment= initial investment + salvage value divided whole by 2

3-      NPV = cash inflow minus cash outflows

4-      PI= present value of cash inflows divided by present value of cash outflows

5-      IRR= lower rate + positive NPV/ positive NPV – negative NPV into different in discount rate 
PREVIOUSLY 

we discuss about the financial management and its aspects 

links http://therafiamemonibf.blogspot.com/2018/09/financial-management-and-its-aspects.html

TO BE CONTINUED..................................

In next we will discuss the capital budgeting numerical and its tricks to solve 







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