Why Dcf Is Bad for Business

Topics: Investment, Decision making, Discounted cash flow Pages: 12 (4363 words) Published: April 10, 2012
Accounting Education: an international journal Vol. 15, No. 1, 3 –10, March 2006

Why DCF Capital Budgeting is Bad for Business and Why Business Schools Should Stop Teaching it RALPH W. ADLER
University of Otago, New Zealand

Introduction As educators, we are constantly making decisions about course content. Each year, as we begin our preparations for writing our new or updated course outlines, such questions as what topics to include, modify, or exclude, are contemplated and re-contemplated. When making these decisions, an implicit or explicit decision is made on what is or is not ‘essential.’ Exactly what constitutes an essential topic derives partly from what is mandated, partly from what is institutionalised, and partly from what twinkles or pales ‘in the eye of the beholder.’ Topic mandates primarily come from the professional accounting bodies with which university accounting departments maintain links. These professional bodies exert a strong influence on course content. Any university accounting department that hopes to attain/retain the professional body’s accreditation must show evidence that it is meeting the Body of Knowledge espoused by and generally encapsulated in the professional body’s course outline(s). The obvious consequence is that a substantial amount of the course content is mandated and driven by the professional bodies. Institutionalization serves to guide course content in two main ways. First, educators, either through a process of formal or informal benchmarking, frequently monitor developments in the course topic coverage of their peers and colleagues. Agreement converges around some belief about ‘best practice,’ which is then accepted and adopted into the course content. A second way in which institutionalization occurs is through textbook adoption. When a course textbook is specified, a resulting commitment is made to a set of topics. The fact that there are usually a small number of popular textbooks, featuring a similar set of topics, helps fuel the process of institutionalization. The educator comprises the third influence on course content. The typical educator’s response to the field of accounting’s expanding subject diversity and technical complexity is to add topics to his/her course outlines. Adler and Milne’s (1997) study showed that educators displayed a seemingly irresistible urge to augment course topics. In particular, 50% of the educators they interviewed, and 41% of the educators to whom they sent a mailed questionnaire stated they needed to expand course content. Correspondence Address: Ralph W. Adler, Department of Accountancy, University of Otago, PO Box 56, Dunedin, New Zealand. Email: radler@business.otago.ac.nz 0963-9284 Print=1468-4489 Online=06=010003–8 # 2006 Taylor & Francis DOI: 10.1080=06939280500452843

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Ultimately, the combination of external and self-induced pressures means educators find it easier to add to rather than delete from course content. Adding topics is generally a safer option from the perspective of professional accounting body accreditation reviews, it mirrors the topic growth in textbooks, and it is more in harmony with educators’ inclinations. Together these forces cause the typical course or programme outline to stretch and bulge in order to accommodate an ever-increasing number of ‘essential’ topics. This movement towards an ever-expanding curriculum is unsustainable. Unless we are prepared to lengthen degree programmes or provide (increasingly) superficial treatment of topics, we must begin to pare down the number of topics covered. The natural question is which topic(s)? My first choice for elimination would be the use of discounted cash flow (DCF) for capital investment decision-making. The assumptions related to DCF are increasingly becoming so disconnected from business reality that its continued use should come with the following warning, ‘This financial management technique is hazardous to your business.’ Discounted Cash Flow...

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