[MacroUniversity]

Capital Budgeting is the name given to the process that a firm goes through in order to analyze alternate projects and investments and decide which ones the company will undertake during the coming year. There are several components to capital budgeting:

• Capital Expenditures and Depreciation
• Interest Expenses
• Taxes
• Opportunity Costs
• Project Externalities: They are indirect effects of the project that may increase or decrease the profits of other business activities of the firm.
• Cannibalization: It is the situation when sales of a new product displace sales of an existing product.
• Sunk Costs: It is any inrecoverable cost for which the firm is already liable. If the decision of the firm does not affect a cash flow, ten the cash flow should not affect the decision.
• Fixed Overhead Expenses: Overhead expenses are associated with activities that are not directly attributable to a single business activity but instead affect many different areas of the firm.
• Past Research and Development Expenses: Any money spent in R&D is already a sunk cost hence irrelevant in making a decision.