Making Sound Capital Budgets
Investment is closely associated with finance, economics, real estate, and business management. It is the redirection of money or deferral of its consumption to make it grow. In the field of business management, investment appraisal or capital budgeting is a fundamental process. A manager valuates a company's assets, which may be physical like buildings, intangible like goodwill, or financial like securities. The manager must make sure that the assets generate streams of profit for the business.
Capital budgeting refers to the planning process wherein the manager decides whether to pursue or not the finance of new machinery, new plants, new products, research development projects, and other long-term investments that require major expenditures. Several mathematical tools are used to help a manager arrive at a financially sound decision. These tools include net present value, profitability index, internal rate of return, and equivalent annuity. All these are financial formulas and formal techniques, which need separate articles to thoroughly explain each one.
If you are an investor, capital budgeting would surely be an important process for you. Capital-intensive endeavours would most certainly need substantial amounts of planning because of its huge financial impact to the firm. For a real estate company for instance, one mistake in the development of a multi-million skyscraper could mean total disaster, more so if most of the business assets were exhausted for the project.
Due to wrong decisions, a number of developers ended up with partially complete and unusable structures, millions of loans, multiple lawsuits, and looming bankruptcy. The initial intention of investment, which is to make profits, will not be materialised. Nevertheless, there are success stories on investments that are worth imitating. Financial disasters can be avoided if the company knows how to make sound capital budgeting decisions.
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