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13.8 The Bigger Picture

PLEASE NOTE: This book is currently in draft form; material is not final.

Learning Objectives

  1. Explain how capital budgeting decisions fit into the larger picture of corporate finance.
  2. Evaluate the ethical implication of capital budgeting decisions.

In many ways, this chapter is the culmination of all that has come before in the text. All of our discussion has given us the tools to evaluate projects and be informed about the financial value of projects that we might undertake. Managers can use these criteria to approve positive value projects, which should increase the value of the company. In future chapters, we examine what make up the cash flows that we are analyzing, and how we might influence the inputs of a project.

Every successful business argument for going forward with a project should be rooted in the information presented in this chapter. While there might be considerations beyond the finances, without a financial valuation it is impossible for a manager to grasp the implication on stakeholders’ value.

Ethical Considerations

It is tempting to proclaim “NPV positive means accept the project” without thinking of the ramifications of such a decision. Purchasing a new machine might mean that jobs will be lost or pollution reduced. It is impossible to accurately put a financial value on a life lost, and yet every day we must make decisions that account for a trade-off among these types of factors.

Just as it is important not to make a decision without understanding the financial impact, it would be folly to limit ourselves to only this perspective.

Key Takeaways

  • Making decisions is ultimately what everyone in business does. These tools allow us to properly factor in financial value to make decisions.
  • When making decisions, we need the numbers, but we also need to look beyond the numbers.

Exercises

  1. Even factoring in potential litigation costs, the NPV for recalling a car with a faulty gas tank is lower than the decision to do nothing. What are some other considerations a manager should incorporate into the decision making process?
  2. We have the technology to build a car that would eliminate deaths in car crashes. Granted, it would look and drive like a tank and cost $1 million. Should we mandate that all cars be so designed? If not, haven’t we put a price on those lives that will be lost in future car crashes?