Data for Capital Budgeting
Data for capital expenditure, decisions differ from according records. Here only future costs and revenues are relevant. At best the recorded, historical data may be useful only as a starting point for making estimate For capital budgeting decisions, all estimated cost pertinent to the project under consideration should be included. These may include : (a) any expected savings in material costs: (b) Prospective changes in direct labour, materials, handling, inspection, etc : and (c) expected increase/decrease in specific overhead e.g. taxes insurance, power, maintenance, repair, supplies, etc.
Opportunity costs, Play important role, in capital expenditure decisions. Opportunity cost represents the loss of alternative revenue as a consequence to action adopted. For instance in an expansion project, the economic rather than the book value of the space required is to be taken into account. Similarly in a replacement decision, the realizable value of the existing assets be treated as a reduction of cost replacement. Here book value data would be misleading.
Treatment of Depreciation capital budgeting is different from convention account report and analysis For replacement decisions depreciation of the unabsorbed book value of an existing asset is a sunk cost and is not relevant expect for its tax effects. It is only the economic value of the asset that has relevance in replacement analysis is an unjustifiable penalty on the new asset.
Estimating cash firms (revenues) for a project is another and one of the most important task in capital budgeting. It is advisable to estimate differential revenue, wherever possible. The final results we obtain are as good as the accuracy of our estimates. There are two facts of the problem. viz (i) estimating the potentially of capacity of the asset/project, which is an engineering exercise and can be determined without much difficulty, and can be determined without much difficulty, and (ii) the marketability of increased or new output the determination of which is rather more difficult and complex. For the later particularly where the investment in large a formal market, survey and research may undertaken.
For the purpose of capital budgeting we express the benefits or revenues expected to be deprived from a project in terms of cash flow rather than in terms of income. The reason for this may be sought in the fact that cash now in the hope of receiving cash returns in a greater amount in the future, thus, cash not income, is what is important in capital budgeting (Van Horne). It is precisely due to his reason that depreciation a non cash cost-is regarded as cash flow for the purpose of capital budgeting decisions rather than an item of expense (expect where we want to find out the accounting rate return for a project).
Income tax also have a bearing on capital budgeting decisions, as they effect the cash flow budgeting decisions, as they effect the cash flow Payments of income tax results in cash expenditure and, therefore comparison among alternatives is best made after considering tax effects. For this purpose, income tax, provisions regarding capital losses on old assets, undepreciated book value or unabsorbed tax holiday for new investments and development rate, etc, must be carefully studied and taken into consideration for minimizing the tax payment is outflow).