Capital budgeting is the process of analyzing alternative long-term investments and deciding which assets to acquire or sell. An objective for these decisions is to earn a satisfactory return on investment. The process of evaluating and prioritizing capital investment opportunities is called capital budgeting. Capital budgeting relies heavily on estimates of future operation results. These estimates often involve a considerable degree of uncertainty and should be evaluated accordingly.
In addition, many nonfinancial factors are taken into consideration. Capital budgeting decisions have a major effect on the value of the firm and its shareholder wealth. The efficiency of financial management if judged by the success in achieving the firm’s goal which is maximize shareholder wealth that management should endeavour to maximize the net present value of the expected future cash flows to the shareholders of the firm.
Net present value refers to the discounted sum of the expected net cash flows. Capital budgeting is a multi-faceted activity. There are several sequential stages in the process.Cambridge University Press