Budgeting Basics and Beyond

20.10. Capital Budgeting Process

Questions that should be asked in the capital budgeting process are:

• How is risk incorporated into the analysis?

• Is risk versus return considered in choosing projects?

• Prior to making a final decision, are all the results of the capital budgeting techniques considered and integrated?

• In looking at a proposal, are both dollars and time considered?

• Is the proposal consistent with long -term goals?

• Does each project have a cost/benefit analysis?

• Do managers know which are the most profitable proposals and products? How much business is in each?

• Are there projects of an unusual nature?

• Do managers periodically track the performance of current programs in terms of original expectations?

• In the capital budgeting process, are qualitative factors, such as marketing, production, and economic and political variables, also considered?

• Has the proposal been considered incorporating the company 's financial health?

• What is the quality of the project?

• Given the current environment, are capital investments adequate?

• Are managers risk prone or risk averse?

• Is the discounted payback method being used?

• How are probable cash flows computed?

• How do managers come up with the expected life?

To look at the entire picture of the capital budgeting process, a comprehensive example is provided.

Example 20

You are deciding whether to buy a business. The initial cash outlay is $35,000. You will receive annual net cash inflows (excluding depreciation) of $ 5,000 per year for 10 years. The ...