This process helps in identifying and calculating capital projects. Capital projects are those projects where the expectation is that the firm receives the CF (cash flow) in a time duration spanning longer than a year. This structure helps in examining and analysing corporate decisions, making it the most important duty of a firm’s financial manager.
I say this because of the following 2 reasons:
- A firm has to purchase expensive assets for business purposes which are fixed in nature and have a long life and knowing this process can help in determining the upcoming success.
- Important corporate decisions can also be made by following this process as the aim is in line with the management’s goal of maximizing the value of the existing shareholders.
5 Key Principles
(1) Cash flows influence decisions, not accounting income:
(2) Cash flows are based on opportunity costs
(3) Timing of cash flows are important
(4) Cash flows are analysed on an after-tax basis
(5) Required rate of return reflects financing costs
Outlined Administrative Steps
(1) Idea Generation: Generating good ideas can be called the most important and foremost step in this process and their sources can be several from senior management to employees
(2) Analysing Project Proposals: A cash flow forecast can help in analysing whether a project is worth investing in based on estimated profitability
(3) Creation of a firm-wide budget: This step assists the firm in ranking all potential projects based on feasibility and profitability
(4) Decision Monitoring & Post-Audit implementation: A thorough follow up is an absolute must as this concept is based on estimates and not on actuals. Errors made help in identifying the flaws and improving operations systematically