Capital expenditure budget definition
/What is the Capital Expenditure Budget?
A capital expenditure budget is a formal plan that states the amounts and timing of fixed asset purchases by an organization. This budget is part of the annual budget used by a firm, which is intended to organize activities for the upcoming year. Capital expenditures can involve a wide array of expenditures, including upgrades to existing assets, the construction of new facilities, and equipment required for new hires. A sample capital expenditure budget appears in the following exhibit.
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How to Construct a Capital Expenditure Budget
The capital expenditure budget is typically arrived at through an iterative process, where the management team evaluates the rate of return on each proposed project, as well as legal and regulatory requirements and the impact of a project on the bottleneck operation of the business. The amount of fixed assets acquired will also vary based on the activity level projected in the rest of the budget, which in turn will be adjusted to match the expansion capabilities of the organization and the amount of cash flows that will be needed to fund growth.
Duration of a Capital Expenditure Budget
A capital expenditure budget may span a longer period than the annual budget. The reason is that some larger fixed asset acquisitions involve lengthy construction periods that can greatly exceed one year. In addition, the nature of the business may involve an ongoing series of major construction projects that could extend for up to a decade into the future. For example, a chip fabrication company competes by constructing successively more complex facilities, each requiring up to five years to complete.