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CAPM and capital budgeting: present versus future, equilibrium versus disequilibrium, decision versus valuation

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Magni, Carlo Alberto

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Abstract

This paper deals with the use of the CAPM for capital budgeting purposes. Four different measures are deductively drawn from this model: the disequilibrium Net Present Value, the equilibrium Net Present Value, the disequilibrium Net Future Value, the equilibrium Net Future Value. While all of them may be used for accept-reject decisions, only the equilibrium Net Present Value and the disequilibrium Net Future Value may be used for valuation, given that they are additive. However, despite their additivity, the latter are not always reliable metrics, because they do not signal arbitrage opportunities whenever there is some state of nature for which they are decreasing functions with respect to the end-of period cash flow. In this case, the equilibrium value of a project is not the price it would have if it were traded in the security market. This result is the capital-budgeting counterpart of Dybvig and Ingersoll’s (1982) result.

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Publisher Info
Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 5468.

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Date of creation: 2007
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Handle: RePEc:pra:mprapa:5468

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Related research
Keywords: Capital budgeting investment appraisal project risk-adjusted rate of return CAPM equilibrium disequilibrium present value future value decision valuation cost risk.

Find related papers by JEL classification:
G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
G3 - Financial Economics - - Corporate Finance and Governance
G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Investment Policy

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References listed on IDEAS
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  1. Stapleton, Richard C, 1974. "Capital Budgeting under Uncertainty: A Reformation: Comment," Journal of Finance, American Finance Association, vol. 29(5), pages 1583-84, December. [Downloadable!] (restricted)
  2. Ukhov, Andrey D., 2006. "Expanding the frontier one asset at a time," Finance Research Letters, Elsevier, vol. 3(3), pages 194-206, September. [Downloadable!] (restricted)
  3. Lewellen, Wilbur G, 1977. "Some Observations on Risk-Adjusted Discount Rates," Journal of Finance, American Finance Association, vol. 32(4), pages 1331-37, September. [Downloadable!] (restricted)
  4. Mossin, Jan, 1969. "Security Pricing and Investment Criteria in Competitive Markets," American Economic Review, American Economic Association, vol. 59(5), pages 749-56, December. [Downloadable!] (restricted)
  5. Rubinstein, Mark E, 1973. "A Mean-Variance Synthesis of Corporate Financial Theory," Journal of Finance, American Finance Association, vol. 28(1), pages 167-81, March. [Downloadable!] (restricted)
  6. Bierman, Harold, Jr & Hass, Jerome E, 1973. "Capital Budgeting Under Uncertainty: A Reformulation," Journal of Finance, American Finance Association, vol. 28(1), pages 119-29, March. [Downloadable!] (restricted)
  7. Bogue, Marcus C & Roll, Richard, 1974. "Capital Budgeting of Risky Projects with "Imperfect" Markets for Physical Capital," Journal of Finance, American Finance Association, vol. 29(2), pages 601-13, May. [Downloadable!] (restricted)
  8. Dybvig, Philip H & Ingersoll, Jonathan E, Jr, 1982. "Mean-Variance Theory in Complete Markets," Journal of Business, University of Chicago Press, vol. 55(2), pages 233-51, April. [Downloadable!] (restricted)
  9. Senbet, Lemma W & Thompson, Howard E, 1978. "The Equivalence of Alternative Mean-Variance Capital Budgeting Models," Journal of Finance, American Finance Association, vol. 33(2), pages 395-401, May. [Downloadable!] (restricted)
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