Question

Why does a company need to carefully consider any capital investments?

Answer 1

Capital Investments or capital expenditures are long term investments that require a current cash outlay today with the expectation of future benefits. Examples of capital investment include expenditures for new or replacement equipment, buildings, and land as well as investments made in Research and development of new products and services. A capital budget is a plan of proposed outlays for acquiring or constructing long term assets and includes the means for financing the acquisition. A firm's stability and future success often depends on it's capital investments. Thus , a firm needs a sound capital budgeting process to analyse and control long term capital investments. Firms often have great difficulty recovering money tied up in bad capital investments, and bad capital investments reduce the firms value. Every firms objective is shareholders wealth maximization implementing bad capital investment reduces the value of firm and it ultimately affects shareholders wealth. There are techniques available for firms to evaluate whether to accept or reject a capital investment it includes NET PRESENT VALUE, INTERNAL RATE OF RETURN, MODIFIED INTERNAL RATE OF RETURN etc also there are qualitative factors such as management may not have the neccessary information to make capital budgeting decesions, Loan provisions limit borrowing, Firms may have self imposed capital rationing limits etc.

hope you understand thanks.