Accounting Best Practices, Fifth Edition

5–18. Adopt Two-Stage Capital Budgeting

The average operations manager does not have a degree in finance, and does not want one. And yet, part of the capital budgeting process requires them to fill out a funds application that requires justification based on such discounted cash flow models as net present value or an internal rate of return, as well as cash flow modeling during each year of the proposed project. The typical manager will require a great deal of time to complete this application, and there is a significant risk that it will not be completed correctly, given the low expertise level of the user.

A better approach is to split the capital budgeting procedure in two—only expensive capital requests are still required to follow a comprehensive application process, while lower-cost ones can follow a simplified application process that is easier for managers to complete. The more comprehensive approach will still be needed for the 20% of capital requests that require about 80% of all funding, leaving the simplified approach for all remaining requests, which should be about four out of every five requests.

A simplified capital request should not require a discounted cash flow analysis; a simplified matrix showing when cash expenditures are anticipated should form the core of the financial analysis. Also, those managers still required to wade through the more comprehensive application form should receive some help—the accounting manager can assign a budgeting specialist to ...