Year: 2014
Type: article
Abstract: Misapplication and misinterpretation of capital budgeting techniques can lead to serious capital allocation and capital structure problems. Mainstream literature suggests at least ten approaches for free cash flow and discount rate estimation (leading to the same net present value – NPV) but their benefits vary a lot. We emphasise the application risks when using these techniques without considering the cost of capital for the whole company, thus leading to value decreasing investment decisions. A comparative analysis with a classical free cash flow to equity (FCFE) and economic value added (EVA) methodology will make a strong case for free cash flow to firm (FCFF) as the most efficient approach. We also shed additional light on the main risks associated with the FCFE technique and project-based weighted average cost of capital (WACC) in the capital budgeting process.
Authors: Paweł Mielcarz, Franjo Mlinarič
Institutions: Kozminski University, University of Maribor
Language: English
Subfield: Strategy and Management
Domain: Social Sciences
Open Access status: gold
Estimated APC paid: $944
OpenAlex ID: W1967868043