The capital request is an internal financial control that companies use to determine how best to allocate funds. Those funds are typically borrowed, which means the cost of capital is considered. That cost is baked into numbers such as the internal rate of return (IRR) and the modified internal rate of return (MIRR). Numbers such as payback period or return on investment (ROI) do not account for the cost of capital and, thus, are not persuasive with those who are managing the money.
Many people get confused because ROI is expressed as a percentage, and a 28% return seems better than a 12% return. A one-shot $1,000 investment with a 28% return is a $280 return on the investment. But a 12% return on a $10,000 investment will ring in $1,200. Obviously, it’s better to make $1,200 than to make $280. Companies live and die on cash flow, so absolute dollars matter while pure percentages are unpersuasive.
So, before you go too far into a project, map out the cash flows and calculate the IRR and the MIRR. Don’t be surprised if that no-brainer, fast-payback-time project turns out to be a poor deal after all. How do you know if the IRR and MIRR you calculate are good or bad? Ask your plant controller or similar manager for some guidelines. IRR and MIRR are considered along with other factors, so you’re unlikely to get a response that X is good and below that is bad.
Once you have the IRR and MIRR and they are within the guidelines and parameters for the given conditions (including such things as total investment amount), you can at least see whether you need to kill the project, modify it (for better numbers), or go ahead with it as is.
If your project passes the math hurdle, you are ready to proceed with the capital request. Most companies have a capital request form because they want the information standardized and they don’t want executives having to wade through dense prose. Whether there’s a form or not, complete these steps before writing the request:
- State the project in a single sentence. If you cannot state it simply, your proposal probably won’t be read.
- Consult the manufacturer(s) of the equipment, software, etc., that are the core of the project. Many major brands already have capital request data and case histories. This is particularly true with items such as high-end test equipment.
- Make a list of the project benefits. Be specific and realistic. Monetize wherever possible.
- Perform a cost/benefit analysis. Do this for the status quo, as well as for the project.
- Conduct a resources assessment. Do you need additional resources? What are they, how much do they cost, how will you evaluate and select them?
- Conduct a lead time assessment. How long will it take to obtain all the hardware? How long in advance do you need to schedule specialized contractors?
- Conduct a risk assessment. What can go wrong during, before, and after the project? What is the severity and likelihood of each risk, and how can you ameliorate each one?
- Write an executive summary. Aside from your financials, this is the only part of your proposal most executives will read. Write the summary last, and include it first. Most proposal forms ask for a summary, but some do not. If yours does not, find a way to send your well-thought-out, well-edited, crystal-clear, compelling summary to key decision-makers.
For example, you can send a note to the division vice president stating, “I have just submitted Proposal ABC1234; here is a summary to help you better understand the proposal.” And remember, a summary is short. Don’t rehash the proposal. You can highlight three key benefits and state the MIRR, or in some other way give a thumbnail of why the project should be considered.
