What is the connection between NPV and capital budgeting?

term capital expenditure is used in conjunction with the amount of money that could be earmarked by a business entity for a project that is expected to provide a stable cash flow, which will last for the given period, usually a year. Businesses generally have many projects included in their capital expenses for the financial or sales period and the process of deciding on specific projects to be carried out versus resources that are at hand is called capital budgeting. The relationship between the pure current value (NPV) and capital budgeting is derived from the importance of using the NPV analysis to determine the profitability for a potential capital project in order to allow management in the business entity to decide on the best type of capital project in which it is to direct its resources. This is due to the use of NPV to measure profitability or otherwise, a potential project, as well as the possibilities of earnings of such a projectpower in a short or long -term horizon. ThyThe factors affect the final decision of the company regarding a specific capital project on which money and a type of profit can be spent, which can reasonably expect to achieve such an investment.

As such, the connection between the NPV and the capital budget of the use of NPV to decide on what projects will bring for the company's most sought -after benefits. Different companies have their own criteria for deciding on the type of project in which you can invest, including the selection of projects that will provide short -term benefits after injection of capital expenditure. Assuming that the company is trying to build a new factory, the application of NPV principles and capital budgeting will lead to a situation where the expected value of the device is deducted from the current value of the expected inflow of cash from the anticipated future plants. This knowledge facilitates the process of capital budgeting as it allows SPOlečnosti to assess the proposed project to reach the final decision on a potential project that will be favorable to it.

For example, the use of NPV and capital budgeting will allow the company to decide whether the proposed factory will generate an instant influx of cash, which quickly compares capital expenditures or whether the expected inflow of cash will come much later. If it determines that the influx of cash does not come quickly enough to satisfy shareholders or for other possible reasons, the company may decide to invest in various projects such as the acquisition of new machines that could start generating an immediate inflow of cash. The use of NPV and capital budgeting will also allow the company to determine the approximate time that can expect the project to generate the inflow of cash.