Project Development with Delegated Bargaining: The Role of Elevated Hurdle Rates
90 Pages Posted: 19 Apr 2023
Date Written: April 7, 2023
During project development, investment costs are endogenously determined through delegated bargaining with counterparties. In surveys, nearly 80% of CFOs report using an elevated hurdle rate, the implications of which we build a model to explore. We show that elevated hurdle rates can convey a bargaining advantage that exceeds the opportunity cost of forgone projects, whether these hurdle rate buffers arise for strategic or non-strategic reasons. Using CFO survey data, we find buffer use is negatively related to the cost of capital and to bargaining power, consistent with our model’s predictions, and that realized returns are associated with “beat the hurdle rate benchmark” behavior.
Keywords: hurdle rates, cost of capital, buffers, capital budgeting, bargaining, project development, project selection, corporate investment
JEL Classification: G30, G31, G32
Suggested Citation: Suggested Citation