What is Net Capital Spending?
Net capital spending refers to the net amount the company spends for the purpose of acquiring the fixed assets during a period of time, which provides an indication about the growth in the fixed assets of the company, usually, the expansion phase generally has a high amount of net capital spending.
Net Capital Spending Formula
It can be calculated with the help of below-mentioned formula:
Where,
- Net fixed assets at the beginning of the period: In order to know the net capital spending during the year, the opening balance of the net fixed assets of the company like the plant, machinery, and equipment, etc. at the beginning of the period is required. This information is taken from the financial statements of the company.
- Net fixed assets at the end of the period: The value of the net fixed assets of the company at the end of the period is required. This information is taken from the financial statements of the company.
- Depreciation expense for the year: Depreciation expense refers to the reduction in the value of the assets over the period of time due to normal wear and tear of the company’s assets. Depreciation expense of the current year is added back to calculate the net capital spending during the year because the ending balance of the net fixed assets has been reduced with the depreciation expense of the year.
Example
For example, at the beginning of the accounting year 2018, the value of net fixed assets of the company B ltd was $850,000, and the end of the accounting year 2018, the value of net fixed assets of the company was $920,000. During the yearly depreciation expense of the company as charged in the income statement is $100,000.
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Using the information, calculate the Net capital spending of the company.
Solution:
- Beginning value of net fixed assets of the company: $850,000
- The ending value of net fixed assets of the company: $920,000
- Depreciation expense for the current year: $100,000
- = $920,000 – $850,000 + $100,000
- = $170,000
Thus the Net capital spending of the company for the accounting year 2018 is $170,000.
Advantages
- The value of the net capital expenditure provides light on the growth of the company. A company which is having a faster rate of growth generally incurs a higher amount of net capital spending. In contrast, the company, which is having a slower rate of growth, typically has less or no net capital spending during the year. Thus it is essential in order to estimate the growth of the company.
- The value of the net capital expenditure will help the stakeholders of the company, including its investors, creditors, management, in getting information about the financial health of the company.
Disadvantages
- In case the net capital spending of the company is high, then it shows that the company commits a vast amount of its money for capital expenditures. In case the spending does not give the desired results, then the company might have to face the huge losses and will disturb the cash flows of the company.
- It requires the right level of planning and budgeting, without which the funds will go in vain.
Important Points
- A company which is having a faster rate of growth generally incurs a higher amount of net capital spending. In contrast, the company, which is having a slower rate of growth, typically has less or no spending during the year. Thus the calculation of this spending is essential in order to estimate the growth of the company.
- It will be equal to zero in case the decrease in value of net fixed assets of the company is equal to its depreciation expense of the current year.
- Depreciation expense of the current year is added back to calculate the net capital spending during the year because the ending balance of the net fixed assets has been reduced with the depreciation expense of the year.
Conclusion
Thus the net capital spending of the company is increasing in its value of the net fixed assets during the year under consideration after adding the charge related to the depreciation expense of the current year. It provides the light on the growth of the company during the period, which will help the stakeholders of the company, including its investors, creditors, management, in getting the information about the financial health of the company.
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