Decisions and the Importance of Budgeting
Capital shows the fixed assets used for production. A budget is a detailed plan that projects cash inflows and outflows over several periods in the future. Capital budget is an outline of a fixed asset expenditure plan. Capital budgeting is a comprehensive process of analyzing projects and determining which are included in the capital budget implementation and economic growth.
The Importance of Budgeting
Decision of capital deployment will affect for a long time so that the company loses its flexibility.
Effective capital budgeting will increase the timeliness and quality of adding assets.
Capital expenditure is very important
Stages of Capital Budgeting
Project costs must be determined.
Management must estimate the expected cash flow from the project, including the final value of assets.
The risk of project cash flow must be estimated. (using the cash flow probability distribution).
By knowing the risks of the project, management must determine the appropriate cost of capital to discount the project's cash flow.
By using the time value of money, the expected cash inflows are used to estimate the value of assets.
Finally, the present value of the expected cash flow is compared to the cost.
In investment decision making, opportunity cost plays an important role. Opportunity cost is income or cost savings that are sacrificed as a result of choosing certain alternatives. For example in replacing old machines with new machines, the selling price of old machines must be taken into account in considering investments in new machines.
In the usual accounting principle, the cost of capital interest alone should not be counted as a cost.
In making investment decisions, the cost of capital itself must be calculated. Cost analysis in investment decisions is more focused on cash flow, because when receiving cash in investment has the time value of money. One dollar received now is more valuable than one dollar received in the future. Therefore, although for the calculation of company profits, costs are calculated based on the accrual principle, but in the calculation of investment selection that takes into account the time value of money, the costs calculated are cash costs.
Capital Budgeting is a process of evaluating and selecting long-term investments that are consistent with maximizing company goals. Definition of Capital Budgeting "Capital Budgeting is the Process of evaluating and selecting long-term investment consistencies with the firm's goal of owner wealth maximization". Investment also means current expenditures and the expected return on those expenditures will only be received more than one year later. The definition of Capital Budgeting is as follows: "Capital Budgeting involves the entire process of planning whose returns are expected to extend beyond one year".
As a consequence, companies need certain procedures to analyze and select several investment alternatives that exist. The decision regarding investment is difficult because it requires an assessment of the situation in the future, so assumptions that are based on estimates of the situation that most closely might be possible, both internal and external situations of the company are needed. The investment must be calculated in accordance with the company's cash flow and must be the most appropriate decision to avoid the risk of loss on the investment. "As time passes, fixed assets may become oblique or may require an overhaul; at these points, too, financial decisions may be required ". Companies usually make various alternatives or variations to invest in the long term, namely in the form of additional fixed assets such as land, machinery and equipment.
These assets are potential assets, which are potential sources of income and reflect the value of a company. Capital budgeting and financial decisions are treated separately. If the proposed investment has been determined to be accepted, the financial manager then chooses the best financing method.
-. A budget is a detailed plan that projects cash inflows and outflows over several periods in the future.
-. Capital budget is an outline of a fixed asset expenditure plan
-. Capital budgeting is a comprehensive process of analyzing projects and determining which are included in the capital budget.
-. The process of collecting, evaluating, selecting, and determining investment alternatives that will provide income for the company for a period of more than 1 year.
The Importance of Budgeting
Decision of capital deployment will affect for a long time so that the company loses its flexibility.
Effective capital budgeting will increase the timeliness and quality of adding assets.
Capital expenditure is very important