BUS422N Capital Budgeting
Autumn 2018Spring 2019
This course deals with company real investments in order to understand and make use of different approaches to calculate project values. They are in turn the basis for project decisions. The focus is on problems and basic models with a simple structure, however, they are at the same time rich enough to give important general knowledge.
The uncertainty dimension is important in this course. After dealing with the classic consumption decision in Fisher diagrams, a number of different approaches related to the individual's evaluation of uncertainty at the project level are introduced. Projects are analyzed in a portfolio perspective and further linked to capital market models. An interesting question here is what is relevant risk. The relationship between uncertainty and decision flexibility is primarily discussed by describing and analyzing real options, but also by the case of gradually revealing uncertainty. The problem of budget restrictions are analyzed within the framework of a simple LP model. The importance of capital structure for projects are dealt with by focusing specifically on how investment decisions are made in case of financial distress, and the course finally discusses traditional approaches to take care of project financing, both separately and included in the required rate of return.
Knowledge - upon successfull completion the student will
- Have a good understanding of various theories and models connected to evaluation and real investment decisions under uncertainty, for example utility theory, Capital Asset Pricing Model, State Preference Model and option pricing theory/models.
- Understand the importance of relevant risk and how this is included in the calculation of project values and the associated project decision.
- Understand how project decision making is influenced by gradually revealed uncertainty and restricted amount of capital.
- Understand how capital structure may influence the required rate of return and project values, and how it may create conflicts between various stakeholders (equity holders and debt holders) in case of fiancial distress.
Skill - upon successfull completion the student will be able to
- Analyze projects in order to assess and evaluate uncertainty at both project and portfolio level.
- Evaluate projects using models in which total risk is relevant and in models where only a fraction of risk is relevant.
- Take flexibility into account by identifying, analyzing and calculating value of real options, as well as adjusting decisions when uncertainty is gradually revealed.
- Make investment decisions in case of restricted amount of capital.
- Value financing effects for projects and explain how the financial situation of a company may create conflicts between various stakeholders as well as calculate the consequence of the associated investment decisions.
General competence - upon successfull completion the student is
- Able to evaluate and deal with real investments in a number of different organizations in a sound manner.
- Able to ask critical questions and otherwise contribute in a constructive way to organizations working with real investments.
Regular lectures where theories, methods and examples are presented. Exercises associated with each topic/lecture will be found on the course homepage, and it is expected that students work with them between lectures. Time will be allocated during lectures to discuss solutions of these exercises. Students are required to hand in two assignments, on which they will receive feedback. Solutions to these assignments will also be presented during lectures.
It is expected that students have knowledge equivalent to bachelor level courses in capital budgeting and finance, micro economics, linear programming and statistics.
Credit reduction due to overlap
BUS422E Capital Budgeting (and BUS422 Investeringsanalyse)
Requirements for course approval
There will be two written hand-in assignments with a set of problems in each assignment. Students are allowed to work in groups of maximum three people (sole authored hand-ins are accepted). Both assignments must be approved in order to be allowed to take the final exam.
Note: Mandatory activities in the course may occur before deadline for course registration.
Course approval from BUS422E is valid for BUS422N.
A 4-hour written exam. Counts 100 %.
A - F
A compendium consisting of a collection of articles and extracts from books and reports.
- ECTS Credits
- Teaching language
Autumn. Offered Autumn 2018
Professor Øystein Gjerde, Department of Business and Management Science