The Economics of Capital Allocation in Firms: Evidence from Internal Capital Markets

62 Pages Posted: 30 Oct 2017 Last revised: 16 May 2018

Daniel Hoang

Karlsruhe Institute of Technology (KIT)

Sebastian Gatzer

Karlsruhe Institute of Technology (KIT)

Martin E. Ruckes

Karlsruhe Institute of Technology

Date Written: May 11, 2018

Abstract

We analyze a unique survey dataset to examine the (micro)foundations of capital allocation in firms. Firms employ systems of interconnected measures to counteract agency problems, including layers of approval, divisional budgets, reporting requirements, and compensation schemes. When making funding decisions, top management relies heavily on top-level, non-financial information. However, substantial parts of the capital budget do not require top management approval as firms trade off the benefits and costs of decentralization. Even firms with active internal capital markets tilt capital allocation toward relatively even distributions. Within-firm agency problems may result in divisions’ restricted access to internal capital.

Keywords: Capital Budgeting, Internal Capital Markets, Agency, Information Asymmetry, Corporate Investment

JEL Classification: G30, G31, G32, M40, M41, M20, M21

Suggested Citation

Hoang, Daniel and Gatzer, Sebastian and Ruckes, Martin E., The Economics of Capital Allocation in Firms: Evidence from Internal Capital Markets (May 11, 2018). Available at SSRN: https://ssrn.com/abstract=3059620 or http://dx.doi.org/10.2139/ssrn.3059620

Daniel Hoang (Contact Author)

Karlsruhe Institute of Technology (KIT) ( email )

Karlsruhe
Germany

Sebastian Gatzer

Karlsruhe Institute of Technology (KIT) ( email )

Kaiserstraße 12
Karlsruhe, Baden Württemberg 76131
Germany

Martin E. Ruckes

Karlsruhe Institute of Technology ( email )

Kaiserstraße 12
Karlsruhe, Baden Württemberg 76131
Germany

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