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In this short essay, the author presents an analysis of the Capital Budgeting and its challenges. The author has further discussed the practical problems associated in cash flow estimation and the recommended methodology to deal with these problems. In the end the author presented some discussion points.
pp2-3) in which the project is either accepted or rejected based on its value addition to the firm and the shareholder wealth. The author showed that the cost of capital of a project is marginalized to maximize the shareholder wealth by including rate of interest, the required rate of return to stock holders, corporate marginal income tax rate, debt to equity ratio and lifetime of the proposed project and the weighted average cost of capital. In a paper written by the same author later (Beranek. 1980. pp404-405) claimed that the Net Present Value rankings of the investment opportunities do not match equity market value unless the projects are of one period duration or are solely equity financed. He established the widely used criteria of accepting a project only if its Present Value is greater than zero and recommended that the project among multiple Mutually Exclusive projects having highest Present Value should be chosen. However, Beranek (1975. pp17) warned of some practical challenges in implementing this technique in capital budgeting due to uneven cash flows, non-straight line income tax & other depreciations, varying methods of repaying the debts, different treatment of shareholders between capital gains & dividends, errors in calculation of weighted average cost of capital in finite lived projects, etc.
His fears were not unreasonable in those years given the current sophistication of ...