Investment Decision Rules

Dirk Schoenmaker and Willem Schramade
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Willem Schramade: Nyenrode Business University

Chapter 6 in Corporate Finance for Long-Term Value, 2023, pp 145-171 from Springer

Abstract: Abstract When making investment decisions, companies need to be able to compare various investment opportunities. Which ones offer the best value? The first sections of this chapter describe how companies can make such comparisons on a purely financial basis, using the basic investment decision rules of payback period; internal rate of return (IRR); discounted cash flow (DCF); or net present value (NPV) to calculate financial value (FV). We then dive deeper in the calculation of social value (SV) and environmental value (EV). Even with these values known, the big question remains: how to balance them? What decision rules should be followed? We present three approaches to combining NPV with social (S) and environmental (E) factors: (1) the constrained PV (with S & E as a budget); (2) the expanded PV (with SV & EV in monetary values); and (3) the integrated PV (with SV & EV explicitly balanced). In all three approaches F, S, and E all weigh in and can be prioritised—ideally informed by the company’s purpose and value creation profile.

Keywords: Company purpose; Constrained PV; Discounted cash flow (DCF); Environmental value (EV); Excessive optimism; Expanded PV; Financial value (FV); Integrated PV; Internal rate of return (IRR); Investment decisions; Investment decision rules; Materiality; Materiality assessment; Monetisation of social value (SV) and environmental value (EV); Net present value (NPV); Overconfidence; Payback period rule; Quantification of social and environmental factors; Shadow price; Social value (SV); Value creation profile (search for similar items in EconPapers)
Date: 2023
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Persistent link: https://EconPapers.repec.org/RePEc:spr:sptchp:978-3-031-35009-2_6

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DOI: 10.1007/978-3-031-35009-2_6

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