Scribd
Upload
151 views20 pages

Introduction To Capital Budgeting

- Capital budgeting is the process of evaluating major investments in fixed assets. It helps management avoid over or under investment. - The managerial accountant plays a key role in capital budgeting through activities like assessing needs/resources, cost accounting, and profitability analysis. - Income taxes impact capital budgeting through cash/non-cash expenses, gains/losses on disposal, and working capital considerations.

Uploaded by

Mary R. R. Panes
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
151 views20 pages

Introduction To Capital Budgeting

- Capital budgeting is the process of evaluating major investments in fixed assets. It helps management avoid over or under investment. - The managerial accountant plays a key role in capital budgeting through activities like assessing needs/resources, cost accounting, and profitability analysis. - Income taxes impact capital budgeting through cash/non-cash expenses, gains/losses on disposal, and working capital considerations.

Uploaded by

Mary R. R. Panes
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
You are on page 1/ 20

Introduction to Capital Budgeting

Learning Objectives
• Overview
• Managerial Accountant’s Role in Capital Budgeting
• Effect Income taxes
• Depreciation for Tax Purposes
• Non-Discounted Cash Flow Analysis
Definition of Capital Budgeting
• The decision making process by which a firm evaluates the
purchase of major fixed assets. It involves firm's decision to
invest its current funds for addition, disposition, modification
and replacement of fixed assets
Importance of Capital Budgeting
• The success and failure of business mainly depends on how the
available resources are being utilized.
• Main tool of financial management
• Capital budgeting offers effective control on cost of capital
expenditure projects.
• It helps the management to avoid over investment and under
investment
Screening Decision

• a decision taken to determine if a proposed investment meets


certain preset requirements, such as those in a cost/benefit
analysis.
Preference Decisions
• the company compares several alternative projects that have
met their screening criteria -- whether a minimum rate of
return or some other measure of usefulness -- and ranks them
in order of desirability. The decision makers then choose the
investment or course of action that best meets company goals
Role of Managerial Accountant in Capital Budgeting

• Assessing Needs and Resources


• Cost Accounting
• Marketing
• Profitability
Effect Income Taxes
• Cash Revenue and Cash Expenses
• Non Cash Expenses
• Gain/Losses on Disposal
• Working Capital
Cash Revenue and Cash Expenses
Non Cash Expenses
Gain/Loss Capital
Working Capital
Depreciation for Tax Purposes
• Depreciation is the process by which a company allocates an
asset's cost over the duration of its useful life.
Non-Discounted Cash Flow Analysis
• Payback Period
• Accounting Rate-of-Return
Pay Back Period 1
• Payback Period
• In case they are even, the formula to calculate
• payback period is:
• Payback Period =Initial Investment/Cash Inflow per Period
Pay Back Period
• Example 1: Even Cash Flows
• Company C is planning to undertake a project requiring initial
investment of $105 million. The project is expected to generate
$25 million per year for 7 years. Calculate the payback period
of the project.
• Solution
Payback Period = Initial Investment ÷ Annual Cash Flow
= $105M ÷ $25M = 4.2 years
Pay Back Period 2
• When cash inflows are uneven, we use the following formula
for payback period:
• Payback Period = A + (B/C)
In the above formula,
• A is the last period with a negative cumulative cash flow;
• B is the absolute value of cumulative cash flow at the end of
the period A;
• C is the total cash flow during the period after A
Pay Back Period
• Traditional Method
Company C is planning to undertake another project requiring initial investment
of $50 million and is expected to generate $10 million in Year 1, $13 million in
Year 2, $16 million in year 3, $19 million in Year 4 and $22 million in Year 5.
Calculate the payback value of the project. (cash flows in millions) Cumulative
• Solution:
Payback Period
• = 3 + ($11M ÷ $19M)
• ≈ 3 + 0.58
• ≈ 3.58 years
Accounting rate of return method

• This method of ARR is not commonly accepted in assessing the


profitability of capital expenditure
Formula
• Accounting Rate of Return is calculated using the following
formula:
• ARR = Average Accounting Profit/Average Investment
ARR Example
An initial investment of $130,000 is expected to generate annual cash inflow of
$32,000 for 6 years. Depreciation is allowed on the straight line basis. It is
estimated that the project will generate scrap value of $10,500 at end of the
6th year. Calculate its accounting rate of return assuming that there are no
other expenses on the project.
Solution
• Annual Depreciation = (Initial Investment − Scrap Value) ÷ Useful Life in Years
• Annual Depreciation = ($130,000 − $10,500) ÷ 6 ≈ $19,917
• Average Accounting Income = $32,000 − $19,917 = $12,083
• Accounting Rate of Return = $12,083 ÷ $130,000 ≈ 9.3%

You might also like

pFad - Phonifier reborn

Pfad - The Proxy pFad of © 2024 Garber Painting. All rights reserved.

Note: This service is not intended for secure transactions such as banking, social media, email, or purchasing. Use at your own risk. We assume no liability whatsoever for broken pages.


Alternative Proxies:

Alternative Proxy

pFad Proxy

pFad v3 Proxy

pFad v4 Proxy