Capital investment decisions involve the judgments made by a management team in regard to how funds will be spent to procure capital assets. There are a number of factors that management must consider when making capital investment decisions, such as:
- How well an investment fits into the long-term strategy of the business.
- Whether a projected increase in sales for which capacity is being increased will actually occur.
- Whether a projected increase in fixed assets will increase the breakeven point of the business, requiring the firm to generate more sales before it can earn a profit.
- Whether the investment will improve the capacity of the firm’s bottleneck operation, thereby increasing the throughput of the organization.
- Whether the cash flows from the investment will generate a positive return on investment.
- Whether an investment to replace an asset can be deferred by enhancing the maintenance of the existing asset.
- Whether the investment is required by regulatory requirements, irrespective of the return on investment.
- Whether the firm has sufficient funding available to pay for the assets that it wishes to acquire.
Capital investment decisions are also known as capital budgeting.