Tuesday, May 31, 2011

Nature and Concept of Capital Budgeting

Question expected – Explain the nature and concept of Capital budgeting?

Capital Budgeting – Meaning

Capital expenditure budget or capital budgeting is a process of making decision regarding investments in fixed assets which are not meant for sale such as land, building, machinery or furniture. The word investment
refers to the expenditure which is required to be made in connection with the acquisition and the development of long-term facilities including fixed assets. It refers to a process by which management selects those investment proposals which are worthwhile for investing available funds. for this purpose, management is to decide whether or not to acquire, or add or replace fixed assets in the light of overall objectives of the firm.

Capital Budgeting – definition

According to Prof. R.M. Lynch “Capital budgeting consists in planning, the development of available capital for the purpose of maximizing the long-term profitability [ROI-Return on Investment] of the firm”.

Capital Budgeting – Nature


Nature of Capital Budgeting can be explained in brief as under:
a)    Capital expenditure plans involve a huge investment in fixed assets.
b)    Capital expenditure once approved represents long term investment that cannot be reserved or withdrawn without sustaining loss.
c)    Preparation of capital budget plans involve forecasting, of several years profits in advance in order to judge the profitability of projects.
d)    In view of the investment of large amount for a fairly long period of time, any error in the evaluation of investment projects, may lead to serious consequences; financially and otherwise and may adversely affect the other future plans of the organisations.

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