Free Essay About The Fundamentals Of Capital Budgeting

On 4th March 2015, the Wall Street Journal published an article titled “Big Firms Finally Start to Ramp up Spending”. The article talks about the way company are increasing their expenditure on improvement projects that are aimed towards increasing the investments of the companies. The overall effect is the growth of the US economy. Most companies in the hotel industry tend to put off major renovations when the business is doing well so as to avoid losing out on sales. However, Host Hotels and Resorts Inc. is increasing its expenditure on big projects because it believes that the economic gains will still be there even after the renovations have been completed (Theo, 2015).
Large companies such as Campbell Soup Co., Macy’s Inc. and Northrop Grumman Corp. have increased their capital budgets by 15% (Theo, 2015). The increase in the capital budget involves expenditure that is aimed at improving or extending the life of the assets of the companies. These assets include equipment, computers, and buildings. Companies are urged to increase their capital investment because old equipment or old business models put limits on the growth potential of the companies. These assets require upgrades or updates that will increase the value of the company. The economy has really improved, and it is in a position to reward the efforts made by the companies that increase their capital budgets. The economy is growing stronger meaning that both supply and demand will increase, but the increase in demand will exceed the increase in supply (Theo, 2015). That means that increasing the investment in capital will lead to high future successes.
The above article relates to the chapter on the fundamentals of capital budgeting because it explains the significance of capital budgeting. Capital budgeting involves the process of determining whether to invest on the company’s assets so as to reap larger gains in the future. Such decisions are determined by studying the business environment and searching for indicators that show that the business environment will become favorable in the future. Some of the principles that are important in capital budgeting include basing decisions on cash flows; basing cash flows on opportunity cost; the timing of cash flows; analyzing cash flows on the basis of after tax; and reflecting financial costs on the project’s rate of return.
The above article places a lot of emphasis on the timing of the projects to be undertaken by the companies. Timing is important because it enables the companies to make decisions that are most likely to result in success. An economy that is growing stronger means that there will be a high demand for products or services because people can afford them. Therefore, a company can increase its capital budgets on the improvement of its assets so as to reap more value in the future. Cash flows are dependent on the time value of money. A growing economy indicates that the present cash flow will be more valuable in the future if it is invested today for the purpose of receiving it later.
Capital budgeting also takes into consideration the rate or return of a project. The financial costs of the project are used to determine the rate of return so as to aid in making decisions that will lead to higher returns. A high rate of return means that the value of the firm will increase in the future if the company decides to invest in the project.

Works Cited

Theo Francis. Big Firms Finally Start to Ramp up Spending: Increased Capital Investment Follows Long Stretch of Lackluster Business Expenditures. 4 Mar. 2015. Web. 8 Apr. 2015. http://www.wsj.com/articles/big-firms-spend-more-with-eye-on-growth-1425515735