Capital Budgeting Techniques Explained: Evaluating Investment Decisions for Long-Term Value Creation

Abstract

Capital budgeting is the process of evaluating and selecting long-term investment projects that are aligned with an organization's strategic objectives. Effective capital budgeting ensures that scarce financial resources are allocated to projects with the highest potential for value creation. This paper explores the core capital budgeting techniques used in financial decision-making, including Net Present Value (NPV), Internal Rate of Return (IRR), Payback Period, Profitability Index (PI), and Accounting Rate of Return (ARR). Each technique is analyzed in terms of methodology, advantages, limitations, and applicability in different decision-making contexts. The paper also addresses risk assessment methods such as sensitivity analysis, scenario analysis, and real options, emphasizing the importance of integrating risk into capital budgeting decisions. Through practical examples and industry applications, this paper provides a clear and comprehensive understanding of capital budgeting tools for both financial and non-financial managers.