Recognition of time value of money- In net present value method, present values of all cash inflows are computed. Net Present Value method has following merits:ġ. The excess of present value of all inflows over present value of initial investment is equal to net present value of the investment made in the project. Cost of capital (required rate of return) is employed as discount rate. In this method, present values of all cash flows are computed. This method is consistent with the objective of shareholders’ wealth maximisation. This technique lays emphasis on time value of money. Net present value technique is most popular and most widely used technique of capital budgeting. It can be used as supplementary technique to discounted techniques. Supplementary technique- Payback period method does not say anything about selection or rejection of projects. Inconsistent with the objective- This method is inconsistent with the objective of maximising shareholders’ wealth as it does not take into consideration all cash flows. Overlook of remaining cash flows- Cash flows from the project after the recovery of cost are ignored. Horngren and George Foster, “Capital budgeting is as the making of long-term planning decisions for investments and their financing.” Techniques and Methods used in Capital Budgeting (with advantages, disadvantages, examples, formula and calculations) Techniques of Capital Budgeting – Non-Discounted Cash Flow and Discounted Cash Flow TechniquesĪccording to Charles T. After the introduction of New Economic Policy, the environment in the industry and service sector have considerably changed. This is truer in the modern business environment. The capital budgeting techniques or evaluation of investment proposals have considerably gained the importance.
Capital budgeting is concerned with long-term investment of funds to create production capacity of a firm in anticipation of an expected flow of benefits over a long period of time.
Capital budgeting is the most important decision in financial management.
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