Modern Capital Budgeting and Firm Decisions

Kilian Huber, Dawson Family Professor of Economics and Wallman Society of Fellows
Laurenz De Rosa, Joint Program in Financial Economcis PhD student

The capital budgeting methods, accounting practices, and performance metrics of large U.S. corporations changed substantially in the 1980s and 1990s. Business schools had been teaching rigorous concepts, such as capital discipline and economic profitability, since the late 1960s. Based on these lessons, corporate boards and sophisticated investors started demanding disciplined investment decisions based on the cost of capital and hurdle rates. This project examines the process and consequences of firms adopting such practices. We record when firms adopted the practices, creating a firm-level panel from the 1960s to 2010. We additionally measure the influence of education in leading schools like Chicago GSB, managerial turnover, and industry-wide trends. To collect the data, we combine automated text processing with manual reading of firm annual reports. We then evaluate how the practices improved the real decisions of firms. The project reveals how capital discipline reshaped the approaches and decisions of firms.