Phases of Capital Budgeting
Capital budgeting is a complex process and there are five broad phases. These are planning, analysis, selection, implementation and overview.
Planning
The planning phase involves investment strategy and the generation and preliminary screening of project proposals. The investment strategy provides the framework that shapes, guides and circumscribes the identification of individual project opportunities.
Capital Budgeting Process Analysis
If the preliminary screening suggests that the project is worth investing, a detailed analysis of the marketing, technical, financial, economic, and ecological aspects is conducted.
Selection
The selection process addresses the question—is the project worth investing? A wide range of appraisal criteria has been suggested to judge the worth of a project. There are two broad categories. Non-Discounting criteria and Discounting criteria. Some selection rules for both methods are listed below: -
Non-discounting criteria Accept Reject
Pay Back Period (PBP) PBP < target period PBP >target period
Accounting Rate of Return (ARR) ARR > target rate ARR < target rate
Discounting criteria Accept Reject
Net Present Value (NPV) NPV > 0 NPV < 0
Internal Rate of Return (IRR) IRR > cost of capital IRR < cost of capital
Benefit- Cost Ratio (BCR) BCR >1 BCR < 1
Implementation
The implementation phase for an industrial project, which involves the setting up of manufacturing facilities, consists of several stages: I. Project and engineering designs II. Negotiations and contracting III. Construction IV. Training V. Plant commissioning
Review
Once the project is commissioned, a review phase has to be set in motion. Performance review should be done periodically to compare the actual performance with the projected performance. In this stage, feedback is useful in several ways:
• It focuses on realistic assumptions
• It provides
Planning
The planning phase involves investment strategy and the generation and preliminary screening of project proposals. The investment strategy provides the framework that shapes, guides and circumscribes the identification of individual project opportunities.
Capital Budgeting Process Analysis
If the preliminary screening suggests that the project is worth investing, a detailed analysis of the marketing, technical, financial, economic, and ecological aspects is conducted.
Selection
The selection process addresses the question—is the project worth investing? A wide range of appraisal criteria has been suggested to judge the worth of a project. There are two broad categories. Non-Discounting criteria and Discounting criteria. Some selection rules for both methods are listed below: -
Non-discounting criteria Accept Reject
Pay Back Period (PBP) PBP < target period PBP >target period
Accounting Rate of Return (ARR) ARR > target rate ARR < target rate
Discounting criteria Accept Reject
Net Present Value (NPV) NPV > 0 NPV < 0
Internal Rate of Return (IRR) IRR > cost of capital IRR < cost of capital
Benefit- Cost Ratio (BCR) BCR >1 BCR < 1
Implementation
The implementation phase for an industrial project, which involves the setting up of manufacturing facilities, consists of several stages: I. Project and engineering designs II. Negotiations and contracting III. Construction IV. Training V. Plant commissioning
Review
Once the project is commissioned, a review phase has to be set in motion. Performance review should be done periodically to compare the actual performance with the projected performance. In this stage, feedback is useful in several ways:
• It focuses on realistic assumptions
• It provides