Capital budgeting (or investment appraisal) is the planning process used to determine whether an organization's long term investments such as new machinery, replacement machinery, new plants, new products, and research development projects are worth pursuing. It is budget for major capital, or investment, expenditures.
Many formal methods are used in capital budgeting, including the techniques such as
- Accounting rate of return
- Payback period
- Net present value
- Profitability index
- Internal rate of return
- Modified internal rate of return
- Equivalent annuity
- Real Options Valuation
These methods use the incremental cash flows from each potential investment, or project. Techniques based on accounting earnings and accounting rules are sometimes used - though economists consider this to be improper - such as the accounting rate of return, and "return on investment." Simplified and hybrid methods are used as well, such as payback period and discounted payback period.
Read more about Capital Budgeting: Capital Budgeting Definition, Internal Rate of Return, Equivalent Annuity Method, Real Options, Ranked Projects, Funding Sources, Need For Capital Budgeting
Famous quotes containing the word capital:
“It is a bore, I admit, to be past seventy, for you are left for execution, and are daily expecting the death-warrant; but ... it is not anything very capital we quit. We are, at the close of life, only hurried away from stomach-aches, pains in the joints, from sleepless nights and unamusing days, from weakness, ugliness, and nervous tremors; but we shall all meet again in another planet, cured of all our defects.”
—Sydney Smith (1771–1845)