Justifying the CAPEX decision (cont.)

By James Nicholson-Smith, The FD Centre

What are to costs, benefits and risks associated with the investments?
One
of the most important lessons to learn is that business owners rarely
focus on the real central goals of their business. As a result the
costs, benefits and risks fail to have a good reference point against
which the CAPEX project can be justified.

Having proved that the investment is strategically and operationally
the right thing to do, the analysis starts to determine what it will
cost, what the returns are, what are the risks and how can these be
mitigated. Frequently the financial cost is the only consideration.
However the use of management time is frequently more scarce.

The calculation of the benefits and the risks go hand in hand and
are closely related to the work carried out above in determining
whether the investment will really increase sales throughput. This is a
financial analysis and many business owners rely on their finance teams
to prepare a financial justification. If you do not have the capability
in your business and these decisions are crucial to its success or
failure, perhaps a part-time FD could be the right

How will I be able to model, measure, and therefore monitor the
impact of the investment to ensure it delivers the value expected?

Many
large businesses create complex procedures for the authorisation of
CAPEX without building the investment into the revised business model
and creating systems to measure the actual outcome against the forecast
outcomes used to justify the investment in the first place. Therefore
it is essential when justifying the investment to consider how that
justification can be validated.

This cannot always be clear-cut especially when a combination of
investments are made at one time eg investments in sales and marketing
as well as a new product launch could easily give a confused result.
However the justification for going ahead with a combination of
projects may well be correct because of the cumulative effect. In fact
the benefits of the individual investments in isolation may be zero
without the other investment being made at the same time.

For this reason, we normally group projects together into a single
project where there are clear interdependencies. A classic case in
point would be a new website investment to promote the businesses new
range of products and capabilities with search engine optimisation is
clearly interdependent on the development and launch of those new
production line.

The important message, that business owners ignore at their peril,
is that a localised benefit may have absolutely no impact on businesses
ability to make more money now and in the long term.

As the market leading provider of part-time Finance Directors in the
UK, the FD Centre can help businesses achieve their strategic
objectives. To find out if your business could benefit from a FREE Financial Health Check and receive valuable advice for your business’s financial planning, click here

 

For more information on this subject, you may be interested to read the following articles from James Nicholson-Smith of the FD Centre:

Capacity Planning

Vertical Integration

Justifying the Capital Expenditure for Manufacturing businesses

Posted on 23rd March 2011