Question

In this question you will explain the importance of the different strategic decision making techniques available for capital expenditures.

Describe capital expenditures for a corporation and discuss the process the business may/will take to assess the long-term decision. How will the business ultimately make a decision for capital expenditures?

Answer 1

Process of Capital Budgeting it Steb - 1. Pougeet identification and generation Step-2 Progest Screening and Evaluation Step-3 Project Selection. Step-4. Implementation Steb-s Performance Reviews Capital Budgeting Decisions Capital (Accept / Reject) @ Rationing Decision Mutually Decisich Rate af Return? Gost Exclusive Boject) proget with (Accept) Decision highest Return Ranko l hate of Return <Cost Compete with first and (Reject) Other projects in acceptable the properes . Projets age Said Such a way the rank and a acceptance of one thereafter exclude the acceptance CScanned With CamScanner
Capital expenditures, commonly known as capex are funds used by a company to acquire, upgrade, and maintain physical assets such as property, buildings, an industrial plant, technology, or equipment.

CapEx is often used to undertake new projects or investments by the firm. Making capital expenditures on fixed assets can include everything from repairing a roof to building, to purchasing a piece of equipment, to building a brand new factory. This type of financial outlay is also made by companies to maintain or increase the scope of their operations.

CapEx=ΔPP&E+Current Depreciationwhere:CapEx=Capital expendituresΔPP&E=Change in property, plant, and equipment​
You can also calculate capital expenditures by using data from a company's income statement and balance sheet. On the income statement, find the amount of depreciation expense recorded for the current period. On the balance sheet, locate the current period's property, plant, and equipment (PP&E) line-item balance.

Locate the company's prior-period PP&E balance, and take the difference between the two to find the change in the company's PP&E balance. Add the change in PP&E to the current-period depreciation expense to arrive at the company's current-period CapEx spending.

Techniques of capital budgeting
Payback period method:
As the name suggests, this method refers to the period in which the proposal will generate cash to recover the initial investment made.
Payback period = Cash outlay (investment) / Annual cash inflow

Accounting rate of return method (ARR):
This method helps to overcome the disadvantages of the payback period method. The rate of return is expressed as a percentage of the earnings of the investment in a particular project. It works on the criteria that any project having ARR higher than the minimum rate established by the management will be considered and those below the predetermined rate are rejected.
ARR= Average income/Average Investment
Discounted cash flow method:
The discounted cash flow technique calculates the cash inflow and outflow through the life of an asset. These are then discounted through a discounting factor. The discounted cash inflows and outflows are then compared. This technique takes into account the interest factor and the return after the payback period.
Net present Value (NPV) Method:
This is one of the widely used methods for evaluating capital investment proposals. In this technique the cash inflow that is expected at different periods of time is discounted at a particular rate. The present values of the cash inflow are compared to the original investment. If the difference between them is positive (+) then it is accepted or otherwise rejected. This method considers the time value of money and is consistent with the objective of maximizing profits for the owners.

NPV = PVB – PVC

where,
PVB = Present value of benefits

Internal Rate of Return (IRR):
This is defined as the rate at which the net present value of the investment is zero. The discounted cash inflow is equal to the discounted cash outflow. This method also considers time value of money. It tries to arrive to a rate of interest at which funds invested in the project could be repaid out of the cash inflows.
PVC = Present value of Costs

IRR > WACC then the project is profitable.

If IRR > k = accept

If IR < k = reject

Profitability Index (PI):
It is the ratio of the present value of future cash benefits, at the required rate of return to the initial cash outflow of the investment. It may be gross or net, net being simply gross minus one. The formula to calculate profitability index (PI) or benefit cost (BC) ratio is as follows.

PI = PV cash inflows/Initial cash outlay A,

PI = NPV (benefits) / NPV (Costs)

All projects with PI > 1.0 is accepted