Capital Budgeting, Uncertainty, and Misallocation

114 Pages Posted: 10 Nov 2020 Last revised: 7 Nov 2023

See all articles by Ben Charoenwong

Ben Charoenwong

National University of Singapore - Department of Finance; Chicago Global

Yosuke Kimura

Tokyo Institute of Technology - School of Engineering

Alan Kwan

The University of Hong Kong

Eugene Tan

University of Toronto - Rotman School of Management

Date Written: November 2023

Abstract

In canonical models of investment dynamics under uncertainty, “time-to-build” in investment decisions implies that uncertainty negatively impacts firm values and aggregate capital productivity. However, capital budgeting, which involves ex-ante information acquisition and state-contingent investment decisions, can potentially ameliorate time-to-build frictions. Reduced-form evidence using firm-level data on sales and investment expectations and errors supports both mechanisms. Incorporating capital budgeting into a standard investment model, our calibrated model reveals that state-contingent investment planning and information acquisition reduce aggregate productivity losses by 41% and 17%, respectively. Moreover, gains from planning accrue primarily to less productive firms, while information acquisition benefits higher productivity ones.

Keywords: Corporate Investment, Expectations Formation, Intangible Capital, Information, Learning

JEL Classification: E22, G31, O16

Suggested Citation

Charoenwong, Ben and Kimura, Yosuke and Kwan, Alan and Tan, Eugene, Capital Budgeting, Uncertainty, and Misallocation (November 2023). Journal of Financial Economics (JFE), Forthcoming, Available at SSRN: https://ssrn.com/abstract=3662347

Ben Charoenwong (Contact Author)

National University of Singapore - Department of Finance ( email )

Mochtar Riady Building
15 Kent Ridge Drive
Singapore, 119245
Singapore

HOME PAGE: http://bizfaculty.nus.edu/faculty-profiles/519-ben

Chicago Global ( email )

67 AYER RAJAH CRESCENT, #02-10/17, Singapore
Singapore, 139950
Singapore

HOME PAGE: http://chicago.global

Yosuke Kimura

Tokyo Institute of Technology - School of Engineering ( email )

Tokyo
Japan

Alan Kwan

The University of Hong Kong ( email )

Pokfulam Road
Hong Kong, Pokfulam HK
China

Eugene Tan

University of Toronto - Rotman School of Management ( email )

105 St. George Street
Toronto, Ontario M5S 3E6 M5S1S4
Canada

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