Critically assess the importance of capital budgeting to business investments in nigeria pdf

DEPARTMENT OF MARKETING

COURSE: BUSINESS FINANCE II

CRITICALLY ASSESS THE IMPORTANCE OF CAPITAL BUDGETING TO BUSINESS INVESTMENTS IN NIGERIA.

INTRODUCTION

To understand capital budgeting, it helps to understand both parts of the term. "Capital," in this context, represents investments in long-term, fixed assets, such as the capital investment in a building or machinery. The "budget" represents the plan that details out anticipated revenue and expenses related to the investment during a particular time period, often the duration of a project.

The term "capital budgeting" is the process of determining which long-term capital investments should be chosen by the firm during a particular time period based on potential profitability, and thus included in its capital budget.

Capital budgeting is extremely important to firms since capital investment projects make up some of their most important financial investments. These projects often involve large amounts of money and making poor capital investment decisions can have a disastrous effect on the business.

IMPORTANCE OF CAPITAL BUDGETING TO BUSINESS INVESTMENTS IN NIGERIA

The need to attain the wealth maximization objective of firms in Nigeria has given credence to capital budgeting. Effective corporate management  involves  the  efficient  planning  and  allocation  of  organizational  scarce  resources  in  order  to  achieve organizational  goals  and objectives  (Mbat,  2001).  This suggests a choice among various alternatives placed before corporate management. The need to select from alternatives make corporate investment decision a risky endeavour that must  be carefully  analyzed and  evaluated  to  enhance sound  judgment.        Risk involves the probability that the actual outcome of an investment will deviate significantly from the expected outcome.  Capital budgeting, involves investment decision which may be centered on the expansion, acquisition, modernization or replacement of industrial equipment’s or assets. It could also take the form of sale of a division or business, research and development (R & D), advertisement campaigns and changes in sales and distribution channels (Pandey, 2009; Udoka, Arzizeh & Anyingang, 2012).

Investment decisions of this nature involve huge amounts of financial outlay and must be carefully evaluated and analyzed in terms of its cash flows. The management process needed to evaluate such long term investment is referred to as capital budgeting. Capital budgeting, according to Ross, Westerfield & Jordan (2006), is the process of planning and managing a firms long term investments. It involves the identification and allocation of funds to investment opportunities that are worth more to the firm than the cost involved in acquiring them. On this basis corporate decision makers should pursue all projects and opportunities that enhance shareholders value.  The continuous poor performances of firms in a dynamic business environment suggest that financial managers must choose investments with satisfactory cash flows and rate of return. As rightly held by Femi & Oluwale (2008), financial managers should be able to decide if an investment is worth undertaking and should also have the ability to choose intelligently given other alternatives. This study is therefore meant to investigate the impact of capital budgeting on the strategic decision making process in selected manufacturing sectors in Nigeria.

The abysmal failure of firms in Nigeria has become an issue of concern to the investing public, government and indeed the stakeholders of business organizations. Many explanations have been proffered by eminent scholars on situations ranging from inadequate investment planning, to lack of effective and efficient implementation and control of projects. The result of this market  failure has  led to  loss of market share, poor return  on investments, investment  in high  risk ventures, poor liquidity, inability to meet up with fixed interest obligations and, at worst, liquidation of the firm. Corporate managers have adopted the capital budgeting principles and models such as the Net Present Value (NPV), Pay Back Period (PBB), Discounted Cash Flow (DCF), Internal Rate of Return (IRR), Accounting Rate of Return (ARR), etc, in order to remedy these situations. The questions begging for answers are to what extent has the adoption of these models related with the return on investment of the manufacturing sector in Nigeria?