Capital Budgeting Process

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Table of Contents

Introduction
Steps of issuing bonds
Types of the lease
Short-term borrowing and long-term financing
Equity sources for nonprofit organizations
Discounted cash flow methods
References

Introduction

Capital budgeting is the process undertaken by the business in order to identify and establish projects that are viable and worthy to pursue. Mostly; it involves acquiring and investing in new assets that can earn a return in a long run. Other companies prefer to issue bonds as a way of financing their operations and to maintain a proper operation cash flow.

Steps of issuing bonds

There are steps that a company follows when issuing bonds. First and the foremost, the registered company must evaluate its financial position to determine if issuing bonds is right. Based on the financial position of the company, it will resolve if obtaining outside financial sources is necessary.

If the company has evaluated its financial position and decided to issue bonds, it goes ahead and identifies an underwriter.

Led by the counsel, the underwriter and the company thereafter begin to review the specifics of the bond that includes, when it shall mature and the interest rates it shall attract (Cleverley, Cleverley, Song 2011). Thereafter, the underwriter shall create an underwriting syndicate by inviting another underwriter firm that will be involved in the deal.

This pack of agreement shall consider the task started, giving the company an opportunity to present a registration report to the security commission in the U.S. Registration report normally provide details of the price of the bonds and the purpose for which the money is applied (Cleverley et al., 2011).

Here all the parties who include the company, the underwriter and other invited underwriters that formed the underwriting syndicates, work together. They work and agree on the language and the presentation format in which the registration statement shall be submitted.

The price of the bonds must be set and be submitted to the Trade Report and Compliance Engine (TRACE) ,that work closely as part of the National Association of Securities Dealers (Banner 1998).

The bonds must now be marketed by the underwriter by duly filling the form from the Depository Trust and Clearing Corporations (DTCC).After the approval of the bond issue, the company shall therefore be eligible to start taking orders for the bonds. Finally, the bonds are deposited and distributed to the issuer by the underwriter

Sometimes the company may decide to lease its property to other people to use, who will in return pay back some money to the company. The lesser uses the money from the lessee to finance its debts. The main purpose of the lease is to maintain the capital and the cash flow of the company.

Types of the lease

There exist two major types of leases that include financial lease, also known as capital and finally operating lease. Under the financial lease, the financing company leases the asset to the user for a specific period of time, after which the client can purchase the asset at a lower value. In other hand, under the operating lease, the client has only limited rights over the asset.

Short-term borrowing and long-term financing

This is a small loan that is usually payable within a year. It is easy to apply with only small payment rates. Long-term financing is a big loan that is payable in more than one year and some examples are mortgages and equity. This kind of loan normally takes a long process to apply and needs many formalities.

Equity sources for nonprofit organizations

Retain earning, government grants and charitable contributions are the most primary equity sources of the nonprofit organization. This is because they cannot sell market stocks to raise capital they need.

Discounted cash flow methods

These include the weighted average cost of capital (WACC), cost of equity (COE) and cost of debt (COD). WACC is calculated by weighting the sources of the capital according to the company’s financial structure and multiply them with their costs (Maddox 1999).

COE in the other hand is derived by the help of capital asset pricing model, that shows the return the investor require for bearing the risk of holding company’s shares. In conclusion, COD is generally the rate that the company is required to pay for its outstanding debts.

References

Banner, S. (1998). Anglo-American Securities Regulation: Cultural and Political Roots. New York, NY: Cambridge University Press.

Cleverley, J.O., Song, P.H., & Cleverly, W.O. (2011).Essentials of Healthcare Finance (7^th Ed.).Sudbury, MA: Jones & Bartlett publisher.

Maddox, D. (1999). Budgeting for Not-for-Profit Organizations. New York, NY: John-Wiley and Sons Inc.

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