Question

Why are capital investments considered the most important decisions made by a firm’s management?

Answer 1

Capital Investments are considered the most important decisions made by a firms management due to following reasons:

Large Cash outflows : Capital Investments involves huge cash outlays and involves careful considerations of various factors involved. Once invested it becomes difficult to get it back if everything goes haywire and the assumptions do not prove to be true in real world scenario.

Firms Profitibility : Many a times firms profitability depends upon the success of the capital investment made. Once the decision is made it is irreversible. If the decision goes wrong or the factors involved goes through a shift it can lead to huge losses which in turn will erode the wealth of a business and in worst case can lead to bankruptcy or liquidation.

Selection : There may be many different capital investment options available with the firm/ Co but the management needs to decide which option will fetch the most profits. These capital investment decisions are made through use of various techniques , finanacial methods such as NPV, Payback period etc. But all the methods helps us to understand and select the best alternative which will increase the profits and wealth of Co.

Long term Impact : The capital Investments are those investments which will provide benefits over a long term and not for shorter duration. Hence special importance and time needs to be given while evaluating the decisions. Also once the decisions are made they are difficult to be taken back. Hence the long term existence and profitibility depends a lot on Capital Investments.