Clint Jan Salvaña

2012-51494

Reflection Paper on Capital Budgeting

Businesses did not come into existence by just generating cash inflows. Most of the

business requires some level of capital expenditure to get started and survive. Capital

expenditure is a term to represent the cash used to buy tools and facilities, carry out research

and development, marketing, and to do various activities that are needed for a project to produce

a positive cash flows in the future.

It was noted that capital is one of the critical aspects needed by all businesses. They

needed capital to ensure that they have allotted a budget to drive the initiatives of the business.

This is where capital budgeting comes in. The process of selecting the most important project

to tackle with is the main concept that capital budgeting revolves. The importance is mainly

focused on the strategic allocation of capital in the successful operation in which they pay great

attention in ensuring that their capital is only used on the most important projects.

In my understanding, capital budget addresses the issue of long-term capital

investments. The management would decide which project will help the business achieve its

objectives and worthy of funding or to be rejected. Most of the projects require a massive

investment of resources of which issues of capital budgeting comes in and the primary reason

why the management must be sure before committing to spending. The efficient allocation of

limited resources among competing for project proposal becomes a very daunting task for the

management. Decisions should really be investigated because it is often not easily reversible,

and the project has long-term implications for the whole business.

There are formal methodologies in doing capital budgeting. These are the common

techniques used: (1) net present value, (2) profitability index, (3) internal rate of return, (4)
accounting rate of return, (5) payback period, (6) modified internal rate of Return, (7)

equivalent annuity, and (8) real options valuation (Cooper et. al., 2002). These methods use the

incremental cash flows from each potential investment or project. Techniques based on

accounting earnings and accounting rules are the ones widely used examples of which are the

accounting rate of return and return on investment (Graham and Harvey, 2001). Simplified and

hybrid methods are also used in capital budgeting, such as payback period and discounted

payback period.

Reflecting and relating the idea of capital budgeting on my day to day activities, I can

perceive it as dealing with my prioritization between wants and needs on a long-term basis. For

an instance, my admission to the Master’s in Management program is a project where I need to

really take into consideration with. Factors to consider as a basis for my decision is vital towards

this long-term objective. Some of the factors I have considered were my finances, experience,

commitment, etc. From these factors for consideration, I have decided to pursue this project

and considered it as worthy of funding. A cost benefit analysis would give me self-development

and drives the most out of me by advancements and learnings in the long run. Overall, I can

say that capital budgeting is really an essential strategy of the management in ensuring which

project will help the business achieve its objectives and goals.

References:

Cooper, W.D., Morgan, R.G., Redman, A., and Smith, M. (2002). Capital budgeting models:
theory vs. practice, Business Forum, 26(1& 2), 15-19.
Graham, J. and Harvey, C. (2001). The theory and practice of corporate finance: evidence from
the field, Journal of Financial Economics, 60(2/3), 187-243.
Hasan, M. (2013). Capital budgeting techniques used by small manufacturing companies.
Journal of Service Science and Management, 6, 38-45.