Capital Valuation, What is it and Why does it Matter? Insights from Austrian Capital Theory

The ability to rationally evaluate time-consuming productive activities is what distinguishes capitalism from alternative social systems. Capital-accounting provides the framework for such evaluations that allow decision-makers to calculate the relative values to them of alternative productive activities. In this paper I show how insights from Austrian Capital Theory help to understand this process of evaluation. Austrian economics stresses that evaluation is an essentially subjective process. Entrepreneurs’ estimates of future earnings, which depend on the consumers’ subjective evaluations of the produced products, will vary and they must compete for productive resources in a dynamic trial and error social process. Entrepreneurial evaluations, nevertheless, can be described in terms of familiar financial concepts that encapsulate both the capital-value and the duration of any contemplated business venture. Value and time are the two essential dimensions of dynamic business valuation. I examine these concepts with a view to describing that social process, using what can be known and what needs to be imagined. I conclude that there is no silver bullet formula or method to evaluate a business that would give an objectively correct answer – obviously not, or else we would not have need of a competitive market process – but there are certain logical elements that are universal in any production evaluation decision that should be emphasized.