The goal of the capital budgeting decision is to select capital projects that will decrease the value of the firm. A True B False
The correct answer and explanation is:
Correct Answer: B. False
The goal of the capital budgeting decision is not to decrease the value of the firm, but rather to increase it. Capital budgeting refers to the process companies use to evaluate potential major projects or investments such as purchasing new machinery, launching a new product, or expanding into a new market. It is a key part of a firm’s long-term investment planning.
Firms engage in capital budgeting to ensure that their resources are allocated to projects that are expected to generate the most value for shareholders. When a company considers a new project, it usually evaluates the expected future cash flows, the initial outlay, the timing of returns, and the risk involved. The central goal is to determine whether the investment will generate a return that exceeds the cost of capital, which would increase the firm’s value.
Common techniques used in capital budgeting include Net Present Value (NPV), Internal Rate of Return (IRR), Payback Period, and Profitability Index. Among these, NPV is one of the most reliable because it measures the actual dollar value added to the firm. A positive NPV means the project is expected to add value to the company, whereas a negative NPV would imply a reduction in value and should be avoided.
If a company were to pursue capital projects that consistently decrease its value, it would be failing in its responsibility to maximize shareholder wealth. Such actions could lead to declining stock prices, loss of investor confidence, and eventual financial instability. Therefore, capital budgeting is fundamentally aimed at maximizing firm value, not decreasing it. This is why the statement is false.