## Why Capital Budgeting Matters
Capital budgeting is the process of evaluating long-term investment decisions. It is critical because of four characteristics of such decisions:
| Reason | Explanation |
|---|---|
| Substantial Investment | Requires significant funds for long-term objectives and survival; the choice of financing source depends on the size of capital and timing of cash flows, demanding careful study. |
| Long Time Period | Decisions affect benefits and costs over many years and shape the firm's growth rate and direction. |
| Irreversibility | Most investment decisions are difficult to reverse — due to upfront payments, contractual obligations, or technological limits. |
| Complex Decisions | They rest on forecasts of uncertain future events; quantifying all costs and benefits is hard. |
## The Capital Budgeting Process (6 Phases)
Planning → Evaluation → Selection → Implementation → Control → Review
| Phase | What happens |
|---|---|
| Planning | Identify investment opportunities; assess their potential impact and management's ability to exploit them. Reject poor ones; move promising ones forward. |
| Evaluation | Assess required investment, inflows and outflows using appraisal techniques (payback, ARR, DCF). Choose the technique that best fits the circumstances. |
| Selection | Choose the project(s) that maximise shareholders' wealth, weighing returns, risks and cost of capital. |
| Implementation | Acquire funds, purchase assets, and begin the project. |
| Control | Monitor progress via feedback reports — capital expenditure progress, performance comparisons, post-completion audits. |
| Review | After (or even before) completion, review success/failure; feed lessons back into future planning and generate new proposals. |