Question

What is included in a capital expenditure budget? How does a company maintain control over capital expenditures?

Answer 1

There are basically two types of expenditure. These are capital expenditure and revenue expenditure. Capital expenditure are such expenditure which are incurred to purchase property, upgrading life of assets, maintaining physical assets of company etc. Capital expenditure includes purchase of equipment, purchase of property etc. Capital expenditure are shown in the balance sheet of company and is written off as depreciation or amortization through out the useful life of asset.

Management should control capital expenditure through following techniques:

Capital Budgeting: Management should exercise capital budgeting exercise before incurring capital expenditure. With the help of capital budgeting exercise, management comes to know that whether amount invested in project i.e. capital expenditure is viable or not.

Use of rational method for evaluation: Company should use rational method for expenditure in capital projects. Company should choose method in such a manner so that it fulfills the wealth maximization objective of company.

Progress Report: A progress report should be prepared in such a manner that it clearly depicts the estimated and actual capital expenditure and variance should be easily calculated. A capital project sheet should be prepared.

Continuous search for new method or projects: Company should involve itself in continuing search for new method or projects before incurring capital expenditure. Company should expand capital expenditure only when it adds growth to the company.