Difference Between Capital Budgeting and Capital Planning
In the modern world, most of the day to day decisions of a normal business include basic marketing & operational activities such as how to approach a customer, how to increase market reach, how to take the business online, how the stores shall be arranged, and how many employees are needed for a smooth running of the business, etc. However, such businesses are also required to make other essential decisions such as capital budgeting and planning. These 2 terms, i.e. capital budgeting and capital planning are often used synonymously. However, they are not the same. In the given article, we will try to differentiate between capital budgeting & capital planning.
Capital budgeting is defined as, how businesses choose the best investment alternative to ensure growth and high profitability. It refers to identifying and evaluating large projects that provide cash flows over a period longer than a year. It helps an organization to decide whether or not an organization should fund a specific long term investment. It is the process to evaluate potential major projects or investments. Such methods are often used where a big long term investment is made such as procurement of new machinery, construction of a new plant and acquiring other businesses. Capital budgeting involves the valuation of a company’s lifetime cash inflows and outflows from a project to determine whether the decisions of investing in that project are feasible or not. On the other hand, the process of capital planning tells you where the money for capital projects comes from. It includes preparation of a detailed portfolio by evaluating predicted cash flows, asset values and withdrawal plans. It also provides a roadmap to meet the goals and objectives strategized by the businesses. Capital planning contains several processes that business owners follow while accomplishing various goals. It is the is a comprehensive evaluation of an organization’s current pay and future financial state by using current known variables to predict future income, asset values and withdrawal plans.
Capital budgeting, thus, determines what investments an organization makes by evaluating the expected cash inflows, initial outlays and scrap value of the asset after expiry. Whereas, Capital planning deals with the questions of how this selected investment would be funded after evaluating an organization’s overall cash inflow, cash outflow, asset values and withdrawal plans.