Capital budgeting under uncertainty: An empirical study

Pa y, H. M.A.; Fi e , C. A icle Capi al budge ing unde unce ain y: An empi ical s udy Sou h A ican Jou nal o Business Managemen P o ided in Coope a ion wi h: Uni e si y o S ellenbosch Business School (USB), Bell ille, Sou h A ica Sugges ed Ci a ion: Pa y, H. M.A.; Fi e , C. (1990) : Capi al budge ing unde unce ain y: An empi ical s udy, Sou h A ican Jou nal o Business Managemen , ISSN 2078-5976, A ican Online Scien i ic In o ma ion Sys ems (AOSIS), Cape Town, Vol. 21, Iss. 3, pp. 52-58, h ps://doi.o g/10.4102/sajbm. 21i3.917 This Ve sion is a ailable a : h ps://hdl.handle.ne /10419/218047 S anda d-Nu zungsbedingungen: Die Dokumen e au EconS o dü en zu eigenen wissenscha lichen Zwecken und zum P i a geb auch gespeiche und kopie we den. Sie dü en die Dokumen e nich ü ö en liche ode komme zielle Zwecke e iel äl igen, ö en lich auss ellen, ö en lich zugänglich machen, e eiben ode ande wei ig nu zen. So e n die Ve asse die Dokumen e un e Open-Con en -Lizenzen (insbesonde e CC-Lizenzen) zu Ve ügung ges ell haben soll en, gel en abweichend on diesen Nu zungsbedingungen die in de do genann en Lizenz gewäh en Nu zungs ech e. Te ms o use: Documen s in EconS o may be sa ed and copied o you pe sonal and schola ly pu poses. You a e no o copy documen s o public o comme cial pu poses, o exhibi he documen s publicly, o make hem publicly a ailable on he in e ne , o o dis ibu e o o he wise use he documen s in public. I he documen s ha e been made a ailable unde an Open Con en Licence (especially C ea i e Commons Licences), you may exe cise u he usage igh s as speci ied in he indica ed licence. h ps://c ea i ecommons.o g/licenses/by/4.0/ 52 S.-A .Tydsk .Bcd y sL 1990,21(3) Capi al budge ing unde unce ain y: an empi ical s udy H.M.A. Pa y and C. Fi e * G adua e School o Business Adminis a ion, Uni e si y o he Wi wa e s and, P.O. Box 98, Wi s 2050, Republic o Sou h A ica Recei ed 21 Feb ua y 1990; accep ed 19 Ma ch 1990 The p ac ices o and a i udes owa ds isk analysis in Sou h A ican indus ial companies is s udied. Majo indings a e ha ew companies use he sophis ica ed me hods o isk analysis ecommended in he inancial li e a u e; he e is a wide use o quan i a i e echniques by he mo e capi al in ensi e companies; he e is gene al dissa is ac ion wi h he applica ion o hese echniques in indusuy; companies pe cei e a need o mo e use o quan i a i e isk-analysis echniques o aid decision-making. I is hoped ha a g ea1e unde s anding o he cu en p ac ices o isk-analysis echniques and he a i udes o decision-make s will assis in he selec ion o app op ia e capi al budge ing me hodologies o imp o e in esunen decisions made unde unce ain y. Die p ak yk an, en die houding eenoo isiko-analise in Suid-A ikaanse nywe heidsmaa skappye wo d bes u- dee . Die belang iks e be indinge is da min maa skappye geb uik maak an die e ynde me odes an isiko- analise soos in inansille li e a uu besp eek; da daa 'n g o e oepassing is an kwan i a iewe egnieke deu die mee kapi aalin ensiewe onde nemings; da daa algemene on e edenheid oo die oepassing an die egnielce hee s; maa skappye bese die behoe e om in 'n g o e ma e geb uik e maak an die kwan a iewe isikome odes i beslui neming. Daa wo d e ou da g o e beg ip an die lopende p ak yk an isiko- analise en die houding an beslui neme s sal byd ae o be e keuses an geskik e kapi aalbeg o ingsme odes om beleggingsbeslui e e neem in onseke e oms andighede . .,.o whom all co espondence should be add essed. In oduc ion 1be en i onmen in which company execu i es make business decisions has become inc easingly u bulen and unce ain du ing he 1980s. This has been pa icula ly ue in Sou h A ica which has seen a g ow h in he impo ance o poli ical and social issues in co po a e decision-making. 1be long- enn su i al o companies depends on hei abili y o exploi new business oppo uni ies, sus ain p o i able ope a ions and di es o unp o i able asse s. 1bese ac i i ies in ol e imponan capi al budge ing decisions which shape he u u e o he company. 1be heo y o inance has made a ailable se e al quan i a i e echniques which ha e conside able po en ial in assis ing decision-make s in dealing wi h he unce ain y su ounding such decisions. Howe e esean:he s ha e obse ed ha many companies a e ailing o use capi al budge ing echniques ha ha e become uni e sally accep ed by academics (Biennan, 1986, and Gilman and Fo es e , 1977). No all p ospec i e p ojec s a e equally isky, and an imponan a ea in he heay desc ibes how o inco po a e isk in o he capi al in esbnen app aisal p ocess. Ongoing esea ch in he US and UK has had, as i s goal, he e alua ion o he ex en o which inns a e adop ing isk-adjusbnen echniques in hei analyses. Howe e , ecy li le is known abou how Sou h A ican companies cope wi h he isks o in es ing capi al and o wha ex en hey a e awa e o and use he quan i a i e lechniques a ailable o hem. Thus he objec i es o he esea ch epo ed he e a e o es ablish and compa e he awa eness and use o isk- analysis echniques in capi al budge ing ac oss Sou h A ican indus ial companies o di e ing capi al inaensi y, o in es iga e he a i udes o decision-make s owa ds hese isk-analysis echniques and o assess hei pe cei ed needs o me hodologies o cope wi h unce ain y. Risk assessmen and adjus men echniques While in ui ion is o en used o e alua e he isk o a capi al budge ing p oposal, he e a e se e al onnal echniques which can help in assessing isk. These include sensi i i y analysis, decision ees, simula ion and scena io analysis. A good unde s anding o hese me hods is e y impo an i sound capi al budge ing decisions a e o be made by op execu i es. Sensi i i y analysis is used o de e mine which o he inpu a iables a e c i ical o he success o he p ojec . All such a iables a e lexed by a gi en amoun , and he ela i e impac o he lexing on he p ojec 's Ne P esen Value (NPV) o In e nal Ra e o Re u n (IRR} calcula ed. The echnique su e s om he p oblem ha changes in a iables a e conside ed in isola ion, bu i does p o ide use ul insigh s in o p ojec iskiness. Scena io analysis, in addi ion o measu ing he sensi i i y o changes in key a iables, also looks a he ange o likely alues o hese a iables. Usually wo s and bes case alues a e used o p oduce es ima es o he wo s and bes possible ou comes. Assigning p obabili ies o hese ou comes, as well as o he expec ed ou come, allows o he calcula ion o an expec ed NPV and i s associa ed s anda d de ia ion. The ac ha only a ew disc e e ou comes a e p oduced limi s he alue o scena io analysis. The well- known echnique o Mon e Ca lo simula ion (He z, 1964) is a mo e igo ous me hod o assessing a p ojec 's s and-alone isk. I ies oge he sensi i i ies and inpu a iable p obabili y dis ibu ions, and equi es he use o a compu e and ai ly sophis ica ed so wa e. The ou pu is an NPV p obabili y dis ibu ion, he s anda d de· ia ion o which is a measu e o p ojec isk. S.A J.Bus.MgmL1990,21(3) Decision- ee analysis is gene ally used in conjunc ion wi h p ojec s ha equi e capi al ou lays o e se e al yea s (B igham, 1988: 331) and p o ides es ima es o expec ed NPV and he concomi an s anda d de ia ion. The ou me hods ou lined abo e a e designed o p o ide an assessmen o he ela i e iskiness o a p ojec . Once managemen has a easonable ' eel• o he le el . o isk in o~ ed in an in es men p oposal, i mus be mco po a ed m o he capi al budge ing decision c i e ia. The e a e wo undamen al ways in which he adjus men can be made. Fi s ly, he hu dle a e o p ojec accep ance can be changed by a sui able p emium, o discoun , o allow o isk ha is di e en om he 'no m~l' le el accep ed by he company. Secondly, he es ima ed cash lows can be adjus ed o allow o changing le els o isk o e he li e o he p ojec . The hu dle a e o be adjus ed o accoun o isk will depend on which capi al budge ing me hod is used. The wo popula me hods o isk adjus men a e maximum payback pe iod and he isk-adjus ed discoun a e. I a p ojec has been assessed o ha e isk ha is highe han no mally accep able o he company, he maximum payback pe iod may be sho ened. Howe e , he payback me hod on i s own canno e ec i ely deal wi h isk, as i only ac s as a cons ain on he iming o cash in lows and does no conside he a iabili y o hose in lows. All esul s beyond he payback pe iod a e igno ed, hough dlese may be he mos di icul o o ecas and may hus ca y he mos isk. The adjus men o he maximum payback pe iod, al hough simple and eadily unde s andable, should be ega ded as a c ude me hod which a emp s o a oid a loss si ua ion. The me hod should only be used as a supplemen a y capi al budge ing ool oge he wi h mo e sophis ica ed echniques. The echnique known as he isk-adjus ed discoun a e in ol es changing he hu dle a e i he in e nal a e o e u n is used o he discoun a e i he ne p esen alue o p o i abili y index is used. De e mining how much o adjus he discoun a e o di e en le els o isk is a di icul ask. I he an icipa ed isk o a p ojec is equal o he isk class o he i m, he cos o capi al (which includes a isk ac o ) is he app op ia e discoun a e. I he p oposed p ojec has been assessed o be mo e o less isky han he isk class o he i m, he a e o discoun should be adjus ed up o down om he cos o capi al because he discoun a e should e lec he iskiness o he cash lows being discoun ed. I may be con enien o use a isk classi ica ion sys em o p ojec s, each class o in es men ha ing a discoun a e app op ia e o i s isk. P ojec s in ol ing con ac ual o legal obliga ions may be low isk and equi e a discoun a e below he cos o capi al. Ongoing p ojec s in ol ing exis ing business ope a ions may equi e he i m's cos o capi al as he discoun a e. In es men s in o new p oduc s and ma ke s may equi e a isk p emium o i e o en pe cen abo e he mn's p esen cos o capi al o accoun o he unce ain y o cus ome and compe i o eac ion, lea ning cu e e ec s, ad e ising expenses, p ice le els, 53 e c. Resea ch and de elopmen p ojec s a e usually qui e isky and a e likely o equi e a subs an ial isk p emium. The isk-adjus ed discoun a e me hod has a numbe o limi a ions. In using a cons an isk-adjus ed discoun a e in he calcula ion o ne p esen alue, i is assumed ha he isk o achie ing u u e expec ed cash lows emains he same o e he li e o he p ojec This may no be ealis ic, pa icula ly i he p ojec in ol es he in oduc ion o a new p oduc . In his case i may be expec ed ha he majo isk occu s du ing he ea ly yea s while he p oduc is de eloped, ma ke ed and p omo ed. The isk-adjus ed discoun a e should he e o e dec ease o e ime a he han emaining cons an . The isk o a p ojec may only apply o he ini ial capi al cos o he plan du ing he enginee ing, ~ns uc ion and commissioning s ages. Raising he discoun a e o u u e e enues which may be ela i ely ce ain is a poo way o adjus o he isk ela ed o he cos o he plan . Ano he weakness o he isk-adjus ed discoun a e is ha i does no ell decision-make s which isks hey a e aking. Theo e ically, a isk- ee a e should be used o discoun o he ime alue o money, and adjus men s o any isks should be made sepa a ely. The e a e wo p incipal me hods which accoun o isk by adjus ing he p ojec 's cash lows, namely p ojec li e adjus men and he ce ain y equi alen app oach. P ojec li e adjus men in ol es he unca ion o cash lows by educing he p ojec li e and hence he appa en e u n in o de o accoun o isk. The echnique is c i icised by Van Ho ne (1976) because he e is al eady an unce ain y elemen in p ojec li e and no conside a ion is gi en o he o he a iables which a ec he p obabili y dis ibu ion o he p o i abili y measu e (i.e. he essence o isk). The me hod is subjec i e, c ude and g ossly in e io o o he mo e sophis ica ed echniques. A alid al e na i e o adjus ing he discoun a e is o i s educe each expec ed cash low o i s ce ain y- equi alen and hen discoun o ime using he isk- ~ a e. An app op ia e isk- ee a e would be he e u n expec ed on T easu y Bills. This in ol es de e mining .. wha ce ain e u n he decision-make would be willing o ake in place o each yea 's unce ain e u n. Fo example, assume ha he expec ed e u n in yea ' ' is R5000. The decision-make may indica e ha he is indi e en be ween ecei ing an unce ain R5000 and a ce ain R3000. The R3000 is he ce ain y-equi alen and ep esen s a iskless e u n. The ce ain y-coe icien , which inc eases as isk dec eases and has a alue be ween ze o and one, is equal o 0,60 (R3000/R5000). Ce ain y-coe icien s a e de e mined o each yea 's cash low and he ne p esen alue calcula ed using he o mula: NPV = =O (l+i) 1 Ci = Expec ed ne cash low in pe iod S4 J = Ce ain y-coe icien o pe iod i = Risk- ee a e (a e ax) n = P ojec li e The NPV decision ule emains unchanged, i.e. a p ojec should be accep ed i he NPV is posi i e. The ce ain y-equi alen app oach is heo e ically sound and a oids many o he objec ions ela ed o adjus ing he discoun a e. The deg ee o isk adjus men can be decided by managemen o each ime pe iod and he me hod also disagg ega es he discoun ing o ime and he adjus ing o isk. Despi e i s ad an ages he use o he ce ain y-equi alen me hod aises implemen a ion p oblems in ha decision-make s may ind i easie o subjec i ely aise he discoun a e o a isky p ojec a he han o speci y ce ain y- equi alen s o each yea . P io esea ch O e he pas wo decades nume ous s udies ha e been conduc ed a ound he wo ld o s udy capi al budge ing p ac ice (eg. Pe y, 1975; Pe y, Sco and Bi d, 1975; Gi man and Fo es e , 1977; Schall, Sundem and Geijsbeek, 1978; Kim and Fa aghe , 1981; Bu le , 1982; S anley and Block, 1983; Bie man, 1986; Linneman and Klein, 1985; Pike and Sha p, 1989). The esul s indica e ha companies use mo e han one echnique wi h in e nal a e o e u n and payback being he mos popula . The e is a s ong p e e ence o he use o IRR as he p ima y echnique: he s udy by S anley and Block (1983) indica ing a 65% usage. They epo a end o e ime away om he less sophis ica ed e u n on in es men me hod and owa ds inc eased use o IRR as he p ima y me hod. A s udy by Pike and Sha p (1989) in he Uni ed Kingdom ound ha 75% o i ms use IRR, his pe cen age ha ing g own om 44% in 1975. The mos popula seconda y o supplemen a y echnique was shown by many su eys o be payback pe iod, wi h usage anging om 38% o 44%. The use o ne p esen alue as a seconda y me hod was epo ed as 26% by Gi man and Fo es e (1977) and 30% by S anley and Block (1983). Pe y (1975) ocused on he use o capi al budge ing ools acco ding o he size o i m and ype o indus y. Al hough he ound no de ini e pa e n o be disce nible in e ms o he use o he echniques in di e en indus ies he did conclude ha ' he capi al in ensi e indus ies seem o p e e he ime-weigh ed measu es -discoun ed a e o e u n and ne p esen alue -and he less capi al in ensi e i ms p e e payback'. He also obse ed ha highly capi al in ensi e companies ha a e mo e capi al in ensi e end o use a g ea e numbe o di e en capi al budge ing echniques. Kim and Fa aghe (1981) ound ha i ms in ' echnologically-o ien ed' indus ies end o be mo e ad anced in he use o sophis ica ed capi al budge ing p ac ices. Wo k by Pe y, e al. (1975) and Schall, e al. (1978), S.-A .Tydsk .Bed y sl.1990,21(3) indica ed ha he weigh ed a e age cos o capi al is used as a discoun a e by 30% and 46% o inns espec i ely. A wide a ie y o me hods is used wi h he mos popula me hod in he ea lie s udy being a managemen de e mined a ge a e o e u n. A signi ican numbe o i ms (17% and 26%) p e e o use he cos o a speci ic sou ce o unds as a discoun a e. Se e al esea che s (Pe y, 1975; Gi man and Fo es e , 1977; Schall, e al. 1978 and Bu le , 1982) ound ha mos companies gi e explici conside a ion o isk and unce ain y when making capi al budge ing decisions. Thei s udies indica ed ha 70% o 80% o i ms make some o m o isk adjus men . Schall, e al. (1978) epo ed ha al hough only 36% o he esponding i ms used a quan i a i e isk-assessmen echnique, 78% had speci ic me hods o adjus ing o isk. The ques ion o how i ms adjus ed o isk was also in es iga ed by Pe y (1975), Pe y, e al. (1975), Gi man and Fo es e (1977) and Bu le (1982). The isk adjus ed discoun a e was gene ally ound o be he mos popula echnique bu Pe y, e al. (1975) ound ha a su p isingly la ge 77% o i ms used an adjus men o he payback pe iod as a me hod o accoun ing o isk. This me hod was epo ed by Bu le (1982) o be he second mos popula echnique wi h 42% usage by esponden s. These wo esul s a e in con as o he ai ly low usage o adjus ed payback ound by bo h Pe y (1975) and Gi man and Fo es e (1977). A la ge ac ion o Sou h A ican i ms (36%) uses subjec i e judgemen when adjus ing o isk (Bu le 1982). This is signi ican ly highe han ha ound by he Ame ican esea che s and sugges s a lowe sophis ica ion in capi al budge ing unde unce ain y o Sou h A ican companies. This conclusion is suppo ed by he di e ence in use o he ce ain y-equi alen s app oach by Ame ican and Sou h A ican i ms; 26% in he Uni ed S a es e sus 18% in Sou h A ica. Pe y, e al. (1975) sough addi ional in o ma ion om esponden s in an a emp o disco e he ex en o which di e si ica ion is used o educe isk. Al oge he 57% o he esponden s answe ed no o he ques ion: 'Is di e si ica ion o co po a e in es men s (in o de o educe isk) an impo an capi al- budge ing objec i e o you i ms?' Thus he e seems o be a di e ence o op1mon be ween co po a e decision-make s and academics wi h ega d o he impo ance o po olio di e si ica ion as a p ac ical isk- educ ion echnique. In a ecen su ey by Bie man (1986), in o ma ion was ob ained om senio inancial o ice s o some o he la ges Ame ican companies, ela ing o di icul ies encoun e ed in implemen ing capi al budge ing echniques. Mos o he commen s e lec ed di icul ies expe ienced in coping wi h unce ain y and he majo conclusion d awn was ha a gap exis ed be ween he needs o decision-make s and he me hods cu en ly being used o e alua ing capi al in es men s. This gap seemed o be pa icula ly signi ican in he a ea o isk analysis. S.A J.Bus.Mgm l990,21(3) The esea ch ques ion I inancial heo y is o be co ec ly applied in capi al budge ing, he issue o he inco po a ion o isk analysis in o capi al budge ing is one o undamen al impo ance. This s udy add esses he ques ion o how Sou h A ican companies cope wi h he isks o in es ing capi al and o wha ex en hey a e awa e o and use he quan i a i e echniques a ailable o hem. I also in es iga es whe he he e is a ' di e ence in capi al budge ing p ac ice adop ed by companies o di e en capi al in ensi y. A su ey o he p ac ices and a i udes o decision-make s ac oss companies o di e en capi al in ensi y will, i is hoped, help o iden i y app op ia e me hodologies o dealing wi h unce ain y. The ollowing hypo heses we e es ed: Hypo hesis 1 'The me hods mos commonly used o analyse he isks o capi al in es men p ojec s a e ela i ely subjec i e and unsophis ica ed compa ed wi h modem a ailable me hods.' Hypo hesis 2 'The e is a g ea e use o quan i a i e isk-analysis echniques in mo e capi al in ensi e companies.· Hypo hesis 3 'The e is a g ea e conce n abou isks speci ic o he in es men p ojec being conside ed (unsys ema ic isk) in he mo e capi al in ensi e companies.' Hypo hesis 4 'Decision-make s a e dissa is ied wi h he a ailable me hods o isk analysis. Mo e speci ically, he pe cep ions a e ha : (i) The me hods a e oo complex and academic and he e o e imp ac ical. (ii) The me hods a e oo cos ly and ime-consuming. (iii) Decision-make s a e no su icien ly skilled in he use o he me hods o ully bene i om hem.' Hypo hesis 5 'The e is a need by decision-make s o he use o mo e quan i a i e and sophis ica ed app oaches o e alua ing capi al in es men p ojec s unde unce ain y.' Me hodology A ques ionnai e was sen o he inancial di ec o o each o he 270 indus ial companies lis ed on he Johannesbu g S ock Exchange. In o de o keep he ques ionnai e leng h and complexi y o a easonable le el, he esea ch issues we e kep ela i ely simple. The ques ionnai e was di ided in o ou sec ions. The i s sec ion, en i led 'company backg ound', was included o ob ain in o ma ion on he cha ac e is ics o he esponding i ms in e ms o he business sec o , asse size, capi al budge size, g ow h a e and p o i abili y. Sec ion wo was designed as a b ie inqui y in o he 55 capi al budge ing p ac ices used by he esponden s, while he hi d sec ion comp ised he main body o he ques ionnai e and had he objec i e o es ablishing how companies deal wi h isk and unce ain y when making capi al budge ing decisions. The inal sec ion con ained se en ques ions in ended o elici in o ma ion om esponden s conce ning hei a i udes owa ds isk analysis. Fou o he ques ions a emp ed o de e mine he ex en o esponden s' needs wi h ega d o coping wi h unce ain y, and h ee ques ions p obed he le el o sa is ac ion o esponden s conce ning he a ailable isk-analysis echniques. Company inancial s a emen s we e used o calcula e capi al in ensi y, which was de ined as o al asse s di ided by ne sales. A e age alues o he pas h ee yea s we e used o classi y companies in o ou ca ego ies o app oxima ely equal size. These had capi al in ensi y a ios o 0--0,50; 0,51-0,70; 0,71-0,85; > 0,85. Resul s Al oge he 71 eplies we e ecei ed by he cu o da e o 8 Decembe 1986. O hese 65 we e usable, equi alen o a esponse a e o 24%. In all ou capi al in ensi y g oupings esponse a es we e o e 20%. A wide c oss-sec ion o companies we e included in he sample o esponden s. They had a e age o al asse s o R90 million and capi al budge s anging om R0,25 million o mo e han R500 million. The e was a s ong co ela ion be ween asse size and · he magni ude o he capi al budge . Table 1 se s ou he capi al budge ing me hods in use and hei ela ion o capi al in ensi y. The a e age numbe o echniques used by each company was 2,9 indica ing ha decision-make s use a mul i- echnique app oach o capi al budge ing. This app oach o no elying on a single echnique could be an a emp by companies o cope be e wi h unce ain y. The mos popula p ima y echnique o e all was in e nal a e o e u n (43%) ollowed by e u n on in es men (32%). Howe e , a p onounced di e ence be ween i ms o high and low capi al in ensi y in he use o a p ima y capi al budge ing echnique was ound. 62% o high capi al in ensi y i ms p e e he IRR Table 1 Capi al budge ing me hods in use Capi al in ensi y Mclhod Low High To al In e nal me « mum 64'1, 76'1, 69'1, Ne p esen alue SO'I, 52'1, 51'1, P o i abili y index 11'1, 14'1, 12'1, P esen alue payback 31'1, 41'1, 35'1, Accoun ing paybad 56'1, 59'1. 57'1, Rc um m in es mm 75'1, 52'1, 65'1, A enge numbe o me hods 2,9 2,9 29 56 me hod compa ed wi h only 24% o low capi al in ensi y inns. The mos popula p ima y me hod o low capi al in ensi y inns is ew n on in es men (47%). These esul s a e a s ong indica ion o lowe sophis ica ion in capi al budge ing by companies o lowe capi al in ensi y. The mos popula seconda y echnique used by all esponden s was accoun ing payback (36%). This me hod was p e e ed as a supplemen a y echnique by 35% o low capi al in ensi y inns and 38% o high capi al in ensi y inns. This esponse is no su p ising as he payback me hod can be conside ed o be a c ude o m o isk analysis and i s popula i y as a supplemen a y decision-making aid has p e ailed o yea s. Ne p esen alue was epo ed as being a p ima y echnique by only 10% o he esponden s and as a seconda y echnique by 22% o esponden s. This me hod is he e o e also conside ed by indus ial p ac i ione s o be o bene i mainly as a supplemen a y echnique. This inding is in con as o he gene ally accep ed iew ha he NPV echnique is supe io o he o he capi al budge ing me hods (Cla k, Hindelang and P i cha d. 1984: 57-76). Al oge he 84% o he o al esponden s indica ed ha hey use some o m o discoun a e when doing a capi al budge ing analysis. The mos popula basis o discoun ing is he use o he weigh ed a e age cos o capi al (31%). Ame ican esea che s, Pe y, e al. (1975) and Schall, e al. (1978) es ablished ha he weigh ed a e age cos o capi al was used by 30% and 46% o hei esponden s espec i ely. The nex mos commonly used discoun a e is he in la ion a e, which is used by 30% o esponden s al hough he e is li le heo e ical jus i ica ion o i s use. Possible easons o i s popula i y could be ha he in la ion a e is concep ually simple o unde s and and o ecas s o u u e a es a e usually eadily a ailable. The mos signi ican di e ence be ween high and low capi al in ensi y i ms is in hei use o he a e - ax cos o deb , which was used as a discoun a e by 32% o low capi al in ensi y i ms bu by only 8% o high capi al in ensi y i ms. This could e lec a lack o sophis ica ion by low capi al in ensi y i ms. The a e - ax cos o deb is usually he leas expensi e sou ce o unds o a company and i used as a discoun a e, could lead o some p ojec s being accep ed in e o . O he discoun a es used we e a a e based on pas expe ience (13% o esponden s) and a a e speci ied by a holding company (6%). I hus appea s ha a subs an ial p opo ion o esponding companies a e using discoun a es which a e heo e ically inco ec . This p obably esul s in sub- ~I decisi~-making when conside ing capi al m es men p ojec s using ime-weigh ed e alua ion echniques. Rlsk-analysls p ac ices Responden s we e asked o indica e wha hei inns unde s ood by he enn isk in he con ex o capi al S .-A .Tydsk .Bed y sl.1990,21(3) budge ing. P obabili y o no achie ing a a ge e u n was selec ed by 41 % o he esponden s, whe eas 13% de med isk as he p obabili y o making a loss. Bo h hese de mi ions can be ca ego ised as being associa ed wi h nega i e a ia ion o semi- a iance s a is ic (Copeland and Wes on, 1983: 149). The majo i y o esponden s (54%) a e he e o e conce ned wi h his downside isk and 22% de ined isk as he a ia ion in possible ew ns. Li le di e ence was no ed be ween high and low capi al in ensi y companies. The s udy by Pe y, e al. (1975) indica ed ha 40% o esponden s de ined isk as nega i e a iance and 30% as o al a iance. I he e o e appea s ha in 1986 Sou h A ican indus ial companies we e mo e conce ned wi h he downside isks o capi al in es men s han he Ame ican esponden s in he 1975 s udy. 86% o companies in he high capi al in ensi y s a um use quan i a i e me hods when assessing isk compa ed wi h only 39% in he low capi al in ensi y s a um. P e ious su eys in Ame ica by Pe y and Bowlin (1976) and Schall, e al. (1978) indica ed ha he ac ions o esponden s using quan i a i e isk- assessmen echniques we e 30% and 36% espec i ely. Howe e i would be inco ec o deduce ha Sou h A ican companies make g ea e use o quan i a i e echniques, since he Ame ican s udies we e ca ied ou en yea s p e iously, and ecen longi udinal s udies ha e shown a end owa ds he use o mo e quan i a i e echniques in he Uni ed S a es o Ame ica (Cla k e al. 1984: 57-60). Table 2 shows he esponses o ques ions ela ing o he esponden s amilia i y wi h quan i a i e echniques o he assessmen o isk. I is e iden ha he mos widely used echnique o assessing unce ain y is sensi i i y analysis wi h 61 % o companies epo ing some deg ee o use; 23% using he me hod some imes and 38% using i o en. Only 5% indica ed ha hey a e no amilia wi h his echnique. The second mos popula echnique is scena io analysis, used by 35% o companies, al hough only 15% use his echnique o en. A signi ican ac ion o companies (a leas 31 % ) is no amilia wi h scena io analysis. The use o scena io analysis is mo e p e alen in Ame ica since 50% o i ms in es iga ed by Linneman and Klein (1985) epo ed using i Decision ees and Mon e Ca lo simula ion a e no a all popula as isk-assessmen echniques wi h only 11 % and 7% o esponden s espec i ely epo ing some Table 2 Quan i a i e echniques o assessmen o isk Familia Used Teclmique o No No bu no some· Used assess isk esponse amilia used imes o ien Sensi i i y analysis 17% 5% 17% 23% 38% Decision ees 18% 19% 52% 9% 2% Monie Ca lo simula ion 18% 44% 31% 5% 2% Scena io analysis 17% 31% 17% 20% 15% _ --- S.A J.Bus.MgmL1990,21(3) deg ee o use and only 2% epo ing ha hey used hese me hods o en. A la ge ac ion o inns (44%) epo ed ha hey a e no e en amilia wi h Mon e Ca lo simula ion and 19% a e no amilia wi h decision ees. Pe y and Bowlin (1976) ound in hei su ey ha 30% and 37% o esponden s use decision ees and simula ion espe.c i ely. This is u he e idence ha Sou h A ican companies a e less sophis ica ed in capi al budge ing han hei Ame ican coun e pa s. I can be concluded om he esul s o he esea ch ha e y ew i ms use he mo e sophis ica ed me hods a ailable o isk assessmen , namely, decision ees and Mon e Ca lo simula ion. Sensi i i y analysis is used easonably widely bu i is a ela i ely unsophis ica ed app oach. The su ey did no indica e any signi ican di e ences in he deg ee o amilia i y o use o he ou isk-assessmen echniques ac oss companies o di e en capi al in ensi y. Responden s we e asked whe he , ha ing iden i ied a p ojec o isk di e en om he company a e age, hey make a quan i a i e, subjec i e o no adjus men o hei capi al budge ing me hodology. Only 3% made no adjus men , 34% used a subjec i e app oach and 63% employed a leas one quan i a i e echnique. 79% o high capi al in ensi y companies use quan i a i e echniques compa ed o only 50% o low capi al in ensi y i ms. Ame ican s udies epo ed ha 70% o 80% o i ms make some o m o quan i a i e isk adjus men The esponden s we e also asked o indica e whe he hey we e amilia wi h o use six gi en isk-adjus men me hods. The esul s a e epo ed in Table 3. The echnique ha is used o en by mos esponden s (32%) is an adjus ed hu dle a e o he in e nal a e o e u n. In con as a isk-adjus ed discoun a e is used o en by only 14% o esponden s. This would be expec ed gi en he highe use o IRR compa ed o NPV (see Table I). 23% o esponden s equen ly adjus he hu dle a e o he accoun ing a e o e u n. Adjus ing he maximum payback pe iod is used o en by only 9% o i ms bu used some imes by 32% o i ms. This esul con i ms he p e ious conclusion ha payback pe iod is conside ed o be mo e o a supplemen a y echnique in capi al budge ing. Adjus men o p ojec li e was used by 25% o esponden s and he use o ce ain y-equi alen s was epo ed by 21 % o i ms. 31 % o esponden s we e no amilia wi h ce ain y-equi alen s al hough mos we e amilia wi h he o he i e isk-adjus men me hods. I can be concluded ha he e is a p e e ence by nea ly hal o he esponding i ms o he use o ela i ely unsophis ica ed echniques o isk adjus men . namely, adjus men o hu dle a es o IRR and ROI. App oxima ely one hi d o i ms use he isk adjus ed discoun a e o some ex en Howe e , only one i h o i ms make some use o ce ain y-equi alen s, which is he echnique ega ded as being supe io and he mos sophis ica ed as an aid o isk adjus men (Cla k, e al. 1984: 176-193). The ce ain y-equi alen s me hod was epo ed by Bu le (1982) o be used by only 18% o 57 Table 3 Quan i a i e echniques o adjus men o isk Technique Familia Used IO adjus No No bu no some· Used o isk esponse amilia used imes o en Risk adjul ed dilCOUll a e 22% 6% 37% 22'l> 14'l> In e nal a e o( e u n hu dle a e 17% S% 25% 22% 32% Re u n on in es men hu dle a e 18% 3% 31% 25% 23% Maximwn payback pe iod 20% S% 34% 32% 9% P ojec li e 16% 6% 43% 20% S% Ccnain y-equi alai s 23% 31% 25% 12% 9% esponding companies, and his inding lends suppo o he abo e conclusion. No signi ican di e ences we e ound conce ning he amilia i y and use o speci ic quan i a i e echniques o high o low capi al in ensi y i ms. Howe e , i ms o highe capi al in ensi y clea ly place mo e eliance on he use o quan i a i e isk-adjus men me hods han on subjec i e adjus men . In o de o p o ide some addi ional insigh s in o how companies cope wi h unce ain y, esponden s we e asked o indica e o wha ex en di e si ica ion was conside ed as pa o hei capi al budge ing objec i es. Al oge he 46% o he esponden s did no ega d po olio di e si ica ion as an impo an isk- educ ion echnique, and his e lec s a di e ence o opinion be ween co po a e decision-make s and academics. A simila obse a ion was made by Pe y, e al. (1975) who ound ha 57% o esponden s we e unce ain abou he desi abili y o ha ing a di e si ica ion objec i e in o de o educe isk. A i udes o isk analysis Responden s we e asked o indica e hei deg ee o ag eemen o disag eemen o each o se en s a emen s conce ning di e en aspec s o isk analysis. The e was gene al ag eemen ha decision-make s a e no su icien ly skilled in he use o sophis ica ed isk- analysis echniques o bene i om hem. Howe e , esponden s nei he ag eed no disag eed, bu exp essed neu ali y when p esen ed wi h he s a emen s ha sophis ica ed isk-analysis echniques a e oo cos ly and ime consuming o be jus i ied, and ha hey a e oo complex and academic o be o eal p ac ical use. Whils i was di icul o d aw any gene al conclusions om hese esponses, hey may well be indica i e o a gene al lack o unde s anding o ad anced isk-analysis echniques. High capi al in ensi y companies el ha decision make s a e gi en enough in o ma ion on he unce ain y o capi al in es men p oposals, whe eas he esponden s om companies wi h low capi al in ensi y disag eed. 58 All mns el ha he e was a need o mo e quan i a i e app oaches o coping wi h unce ain y, al hough he eeling was s onge amongs he capi al in ensi e i ms. Howe e , all esponden s indica ed ha en ep eneu ial skills and judgemen emained an impo an pa o he p ocess, despi e he need o a quan i a i e app oach. Fmally mns, especially hose in capi al in ensi e indus ies, disag eed wi h he p oposi ion ha , because e en he mos sophis ica ed o echniques canno p edic he u u e, hey should no be used. Conclusions Hypo hesis 1 is con i med. App oxima ely one hi d o he esponden s do no use any quan i a i e echnique o assess isk o adjus o iL O he emainde , almos all use he ela i ely unsophis ica ed sensi i i y analysis. Few i ms use a sophis ica ed me hod o isk adjus menL The g ea e use o quan i a i e isk-analysis ools by mo e capi al in ensi e i ms con i ms hypo hesis 2. Al oge he 80% o high capi al in ensi y i ms ega d unsys ema ic isk as e y impo an , and mos aim o achie e a deg ee o di e si ica ion in o de lo educe isk. Hypo hesis 3 is hus also con i med. Pa s (i) and (ii) o hypo hesis 4 could no be con i med, bu i ms did indica e ha a lack o skills p ecluded hem om ully bene i ing om echniques o isk analysis, hus con i ming pa (iii). In con i ming hypo hesis 5, companies did indica e a need o mo e quan i a i e echniques lo be used by decision-make s. These iews we e mo e s ongly held by hose mns wi h high capi al in ensi ies, bu esponden s empe ed his iew wi h he need o complimen a y en ep eneu ial skills and judgemenL A majo inding o his esea ch is ha e y ew companies appea o use sophis ica ed capi al budge ing echniques. Al hough mos o he high capi al in ensi e companies use he in e nal a e o e u n as a p ima y me hod, he low capi al in ensi e companies clea ly p e e o use he accoun ing a e o e u n. The mos popula seconda y capi al budge ing me hod is he payback pe iod which is conside ed o be ela i ely c ude and unsophis ica ed. The equen use o sophis ica ed isk-analysis echniques is also limi ed lo a small mino i y o companies. Howe e , he esea ch esul s indica e a wide use o quan i a i e isk-analysis echniques by he mo e capi al in ensi e companies. The e also appea s o be gene al dissa is ac ion wi h he applica ion o hese echniques in indus y. Mos S.-A .Tydsk .Bcd,y sl.1990,21(3) companies ne e heless pe cei e a need o g ea e use o quan i a i e isk-analysis echniques o aid decision- making. Re e ences Bie man. H. 1986. Implemen a ion o capiJal budge ing echniques. Tampa. Flo ida: Financial Managemen Associa ion. B igham, E.F. & Gapenski. L.C. 1988. Financial manageml!nl. 5 h Ed. Hinsdale. Illinios: D yden P ess. Bu le , F.D. 1982. C iJe ia o majo in es men decisions. Johannesbu g: Uni e si y o he Wi wa e s and (Unpublished MBA Resea ch Repo ). Cla k. JJ., Hindelang, TJ. & P i cha d, R.E. 1984. CapiJal budge ing. 2nd Ed. Englewood Cli s, New Je sey: P en ice-Hall Inc. Copeland, T.E. & Wes on FJ. 1983. Financial Mo y and co po a e policy. 2nd Ed. Reading, Massachuse s: Addison-Wesley. Gi man, LI, & Fo es e , J.R. 1977. A su ey o capi al budge ing echniques used by majo U.S. i ms. Financ. Manage. Fall: 66-71. He z. D.B. 1964. 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