From behavioural to emotional corporate finance: a new research direction

Behavioural finance and behavioural corporate finance analyses the effects of psychological biases, heuristics, and emotions on investors' and managers' decision-making and performance. Taffler and Tuckett (2005) have introduced a major paradigm shift by introducing a new field of research, namely emotional finance. This ground-breaking approach employs Freud's theory of phantastic objects to analyse the effect of unconscious, infantile, emotions on investors' decisions. In this paper, we extend their work by proposing a new development, namely, emotional corporate finance. We argue that, just as investors may view investments as phantastic objects, managers may view their projects similarly. We develop a formal approach that considers the effects of managerial phantasy on the investment appraisal decision, project performance, and managerial entrapment in a losing project. Our main results are as follows: 1) managerial project-phantasy may induce a manager to mistakenly invest in value-reducing projects; b) phantasy may lead to volatility of managerial emotions, and hence volatility of project performance; c) phantasy may lead to project entrapment, but may result in project abandonment if the manager's project-phantasy turns to project hatred. We conclude by considering whether managerial phantasy could explain management's entrapment in the Concorde project.