Compare and Contrast Non-Time Value-Based Methods and Time Value-Based Methods in Capital Investment Decisions
Compare and Contrast Non-Time Value-Based Methods and Time Value-Based Methods in Capital Investment Decisions
Final Comparison of the Four Capital Budgeting Options
A company will be presented with many alternatives for investment. It is up to management to analyze each investment's possibilities using capital budgeting methods. The company will want to first screen each possibility with the payback method and accounting rate of return. The payback method will show the company how long it will take to recoup their investment, while accounting rate of return gives them the profitability of the alternatives. This screening will typically get rid of non-viable options and allow the company to further consider a select few alternatives. A more detailed analysis is found in time-value methods, such as net present value and internal rate of return. Net present value converts future cash flows into today's valuation for comparability purposes to see if an initial outlay of cash is worth future earnings. The internal rate of return determines the minimum expected return on a project given the present value of cash flow expectations and the initial investment. Analyzing these opportunities, with consideration given to time value of money, allows a company to make an informed decision on how to make large capital expenditures.
ETHICAL CONSIDERATIONS
Barclays and the LIBOR Scandal
As discussed in the Volkswagen Diesel Emissions Scandal, when a company makes an unethical decision, it must adjust its budget for fines and lawsuits. In 2012, Barclays, a British financial services company, was caught illegally manipulating LIBOR interest rates. LIBOR sets the interest rate for many types of loans. As CNN reported, "LIBOR, which stands for London Interbank Offered Rate, is the rate at which banks lend to each other, and is used globally to price financial products, such as mortgages, worth hundreds of trillions of dollars".
While Volkswagen decided to cover the costs related to fines and lawsuits by reducing its capital budget for technology and research, Barclays took a different approach. The company chose to "cut or claw back about 450 million pounds ($680 million) of pay from its staff" and from past pay packages "another 140 million pounds ($212 million)". Instead of reducing other areas of its capital budget, Barclays decided to cover its fines and lawsuits by cutting employee compensation.
The LIBOR scandal involved a number of international banks and rocked the international banking community. An independent review of Barclays reported that "if Barclays is to achieve a material improvement in its reputation, it will need to continue to make changes to its top levels of pay so as to reflect talent and contribution more realistically, and in ways that mean something to the general public". Previously, as described by the company website, "Barclays has been a leader in innovation; funding the world's first industrial steam railway, naming the UK's first female branch manager and introducing the world's first ATM machine". The positive reputation Barclays built over 300 years was tarnished by just one scandal, and demonstrates the difficulty of calculating just how much unethical behavior will cost a company's reputation.