Question

In Paragraph Forum

1. Why is it important to consider the cost of long-term capital expenditures when they reside on the balance sheet?

2. Describe the steps in creating a capital budget.

3. Explain the various situations where each one of the six techniques for capital budgeting would be the best one to utilize. (Note you need to come up with a situation for each one of the six techniques).

Answer 1

1)

A capital expenditure is the use of funds by a company to acquire physical assets to improve its value or increase its long-term productivity.This cost is an amount you pay to buy or upgrade a long-term asset, such as a computer or a machine. The actual cost of a capital expenditure does not immediately impact the income statement, but gradually reduces profit on the income statement over the asset’s life through depreciation.

Depreciation:

A business charges a portion of the capital expenditure to a “depreciation” expense on the income statement each period of the asset’s life.   It should then be deducted over the course of multiple years as a depreciation expense starting in the year following the year of purchase.

Indirect impact:

A capital expenditure can affect the income statement in other ways. A new asset can increase revenue as well as spending more on supplies, maintanence,which can increase expenses on the income statement. For example, assume your small business buys new equipment that doubles your production, but requires additional workers. The higher production would likely add to your revenue, but the additional staff would increase your expenses.