Capital Budgeting Technique
The fast transformation in trade has made enterprises to encounter issues. This is in attribute to fixed resources that is inclusive of both existing and modern projects. This implies that business managers have to be careful in allocating resources. It is because; they have to select those that are viable from existing or new categories. It is in this regard that trade managers prefer capital budgeting as a technique that aids in allocating sources and selecting projects.
Studies reveal that capital budgeting is a tool that is embraced by managers in decision making and contributes to development of the product. Capital budgeting is effective in measuring viability of a given trade and its returns. This technique incorporates two methods that are discounts and absence of reduction. The strategy of using discounts revolves around the value of money. Conversely, tactics that do not involve use of discounts rely on the concept of both time and money.
It is the responsibility of the management to decide on the project type and the method that is effective. In capital budgeting, the discount methods use net present value NPV. To use NPV efficiently, timing and cash flow are two concepts that are vital. Cash flow incurs discounts using the correct rate to attain a reduced value. This will further determine flow of cash in future. Furthermore, in capital budgeting, profitability index is an approach that considers the value of cash in a given duration.
Business managers also embrace non discount approaches in their operations. The common ones that apply in capital budgeting include accounting of return rates and payback period. Payback period determines the duration that a trade will take to return its cash outlay from capital projects (Emery et al., 2007).
Accounting rates of return is an approach that incorporates net income and not cash flows.
Accounting rate of return=
Baker, R. Lembke, V. King, T. & Jeffrey, C. (2008). Advanced financial accounting. (8th Ed.). New York: McGraw-Hill Companies.
Emery, D. R., Finnerty, J. D & Stow, J. D. (2007). Corporate financial management. (3rd ed.). Prentice Hall International.
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