INTRODUCTION (INVESTMENT DECISIONS)
In the first chapter we have discussed the three important functions of financial management which were Investment Decisions, Financing Decisions and Dividend Decisions. So far we have studied Financing decisions in previous chapters. In this chapter we will discuss the second important decision area of financial management which is Investment Decision. Investment decision is concerned with optimum utilization of fund to maximize the wealth of the organization and in turn the wealth of its shareholders. Investment decision is very crucial for an organization to fulfil its objectives; in fact, it generates revenue and ensures long term existence of the organization. Even the entities which exists not for profit are also required to make investment decision though not to earn profit but to fulfil its mission.
As we have seen in the financing decision chapters that each rupee of capital raised by an entity bears some cost, commonly known as cost of capital. It is necessary that each rupee raised is to be invested in a very prudent manner. It requires a proper planning for capital, and it is done through a proper budgeting. A proper budgeting requires all the characteristics of budget. Due to this feature, investment decisions are very popularly known as Capital Budgeting, that means applying the principles of budgeting for capital investment.
In simple terms, Capital Budgeting involves: -
- Identification of investment projects that are strategic to business overall objectives;
- Estimating and evaluating post-tax incremental cash flows for each of the investment proposals; and
- Selection an investment proposal that maximizes the return to the investors.
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