What Is an Appropriation?
Appropriation is when money is set aside for a specific purpose. A company or a government appropriates funds in order to delegate cash for the necessities of its operations. Appropriations for the U.S. federal government are decided by Congress through various committees. A company might appropriate money for short-term or long-term needs that include employee salaries, research and development, and dividends.
- Appropriation is the act of setting aside money for a specific purpose.
- A company or a government appropriates money in its budget-making processes.
- In the U.S., appropriations for the federal government are earmarked by congress.
What Does an Appropriation Tell You?
Appropriations tell us how money or capital is being allocated whether it's through the federal government's budget or a company's use of cash and capital. Appropriations by governments are made for federal funds each year for various programs. Appropriations for companies may also be known as capital allocation.
Appropriation could also refer to setting apart land or buildings for public use such as for public buildings or parks. Appropriation can also refer to when the government claims private property through eminent domain.
In the United States, appropriations bills for the federal government's spending are passed by U.S. Congress. The government's fiscal year runs from October 1 through September 30 of each calendar year.
Each fiscal year, the U.S. President submits a budget proposal to Congress. Budget committees in the U.S. House and Senate, then determine how the discretionary portion of the budget will be spent through a budget resolution process. The process yields an allocation of an amount of money that is assigned to the various appropriations committees. The House and Senate appropriations committees divide the money up between the various subcommittees that represent the departments that'll receive the money. Some of the departments include the following:
- Department of Agriculture
- Department of Defense
- Department of Energy
- Department of Commerce
- Department of Labor
- Department of Transportation
Federal programs such as Social Security and Medicare fall under the mandatory expenditures category and receive funding through an automatic formula rather than through the appropriations process.
Congress also passes supplemental appropriations bills for instances when special funding is needed for natural disasters and other emergencies. For example, in December 2014, Congress approved the Consolidated and Further Continuing Appropriations Act, 2015. The act approved $5.2 billion to fight the Ebola virus in West Africa and for domestic emergency responses to the disease. The act also allocated funding for controlling the virus and developing treatments for the disease.
Appropriations in Business
Corporate appropriations refer to how a company allocates its funds and can include share buybacks, dividends, paying down debt, and purchases of fixed assets. Fixed assets are property, plant, and equipment. In short, how a company allocates capital spending is important to investors and the long-term growth prospects of the company.
How a company appropriates money or invests its cash is monitored closely by market participants. Investors watch to determine whether a company is using its cash effectively to build shareholder value or whether the company is engaged in frivolous use of its cash, which can lead to the destruction of shareholder value.
Monitoring Corporate Appropriations
Investors monitor corporate appropriations of cash by analyzing a company's cash flow statement. The cash flow statement (CFS) measures how well a company manages its cash position, meaning how well the company generates cash to pay its debt obligations and fund its operating expenses. The cash flow of a company is divided into three activities or behavior:
- Operating activities on the cash flow statement include any sources and uses of cash from business activities such as cash generated from a company's products or services.
- Investing activities include any sources and uses of cash from a company's investments such as a purchase or sale of an asset.
- Cash from financing activities includes the sources of cash from investors or banks, as well as the uses of cash paid to shareholders. The payment of dividends, the payments for stock repurchases, and the repayment of debt principal (loans) are included in this category.
Example of Company Appropriations
Below is the cash flow statement for Exxon Mobil Corporation (XOM) from Sept 30, 2018, as reported in its 10Q filing. The cash flow statement shows how the executive management of Exxon appropriated the company's cash and profits:
- Under the investing activities section (highlighted in red), $13.48 billion was allocated to purchase fixed assets or property, plant, and equipment.
- Under the financing activities section (highlighted in green), cash was allocated to pay down short-term debt in the amount of $4.279 billion.
- Also under financing activities, dividends were paid to shareholders (highlighted in blue), which totaled $10.296 billion.
Whether Exxon's use of cash is effective or not is up to investors and analysts to debate since evaluating the process of appropriating cash is highly subjective. Some investors might want more money allocated to dividends while other investors might want Exxon to allocate money towards investing in the future of the company by purchasing and upgrading equipment.
Appropriations vs. Appropriated Retained Earnings
Appropriated retained earnings are retained earnings (RE) that are specified by the board of directors for a particular use. Retained earnings are the amount of profit left over after a company has paid out dividends. Retained earnings accumulate over time similar to a savings account whereby the funds are used at a later date.
Appropriated retained earnings can be used for many purposes, including acquisitions, debt reduction, stock buybacks, and R&D. There may be more than one appropriated retained earnings accounts simultaneously. Typically, appropriated retained earnings are used only to indicate to outsiders the intention of management to use the funds for some purpose. Appropriation is the use of cash by a company showing how money is allocated and appropriated retained earnings outlines the specific use of that cash by the board of directors.
Limitations of an Appropriation
For investors, the cash flow statement reflects a company's financial health since typically the more cash that's available for business operations, the better. However, there are limitations to analyzing how money is spent. An investor won't know if the purchase of a fixed asset, for example, is a good decision until the company begins to generate revenue from the asset.
As a result, the investor can only infer whether the management is effectively deploying or appropriating its funds properly. Sometimes a negative cash flow results from a company's growth strategy in the form of expanding its operations.
By studying how a company allocates its spending and uses its cash, an investor can get a clear picture of how much cash a company generates and gain a solid understanding of the financial well being of a company.