Professional Documents
Culture Documents
Chap Overview
Chap Overview
OVER VIEW
OUTLINE
Capital investments: Importance and difficulties
Types of capital investments
Phases of capital budgeting
Levels of decision making
Facets of project analysis
Feasibility study: A schematic diagram
Key issues in major investment decisions
Objectives of capital budgeting
Common weaknesses in capital budgeting
Capital Investments : Importance and Difficulties
Importance
Long – term effects
Irreversibility
Substantial outlays
Difficulties
Measurement problems
Uncertainty
Temporal spread
Types of Investments
Mandatory Investments
Replacement investments
Expansion investments
Diversification investments
R & D investments
Miscellaneous investments
Capital Budgeting Process
Planning
Analysis
Selection
Financing
Implementation
Review
Levels of Decision Making
Where is the decision taken Lower level Middle level Top level
management management management
Potential Market
Market Analysis
Market Share
Technical Viability
Technical Analysis
Sensible Choices
Risk
Financial Analysis
Return
Benefits and Costs in Shadow
Economic Analysis Prices
Other Impacts
Environmental Damage
Ecological Analysis
Restoration Measures
Feasibility Study : A Schematic Diagram
P Generation of Ideas
r
e
l
Initial Screening
i
m
Is the Idea Prima Facie Promising
i
n Yes No
a
r
Plan Feasibility Analysis
y Terminate
• Investment story
• Risks
• DCF Value
• Financing
• Options
Objective of Capital Budgeting
Investment
Return
decisions
Market value
of the firm
Financing
Risk
decisions
Common Weaknesses in Capital Budgeting
Poor alignment between strategy and capital budgeting
Deficiencies in analytical techniques
Poor identification of base case
Inadequate treatment of risk
Improper evaluation of options
Lack of uniformity in assumptions
Neglect of side effects
No linkage between compensation and financial measures
Reverse financial engineering
Weak integration between capital budgeting and expense budgeting
Inadequate post - audits
SUMMING UP
Essentially a capital project represents a scheme for investing resources that
can be analysed and appraised reasonably independently.
The basic characteristic of a capital project is that it typically involves a
current outlay (or current and future outlays) of funds in the expectation of a
stream of benefits extending far into the future.
Capital expenditure decisions often represent the most important decisions
taken by a firm. Their importance stems from three inter-related reasons:
long-term effects, irreversibility, and substantial outlays.
While capital expenditure decisions are extremely important, they pose
difficulties which stem from three principal sources: measurement problems,
uncertainty, and temporal spread.
Capital budgeting is a complex process which may be divided into six broad
phases: planning, analysis, selection, financing, implementation and review.
One can look at capital budgeting decisions at three levels: operating,
administrative, and strategic.
The important facets of project analysis are: market analysis, technical
analysis, financial analysis, economic analysis, and ecological analysis.
Financial theory, in general, rests on the premise that the goal of financial
management should be to maximise the present wealth of the firm’s equity
shareholders. Business firms may pursue other goals. When these other goals
conflict with the goal of maximising the wealth of equity shareholders, the
trade-off has to be understood.