Capital Budgeting Practices : A Survey in The Firm in Cyprus

By Ioannis T. Lazaridis

CONTENT OF PAPER

IntroductionThe purpose of paperReview of LiteratureMethodology usedProfile of the surveyed companiesSurvey resultOverview and conclusions

I. INTRODUCTION

CYPRUSCYPRUS

Geographic position as it stands between east and westJoining to the European CommunityExpected to be ready to confront competition and pressures in the common marketThe increase in the volume of their investment drive readjustment of their investment policy

II. THE PURPOSE OF PAPER

1. To investigate the methods used by the Cyprus companies to evaluate investments

2. To investigated the approach adopted to handled important estimation problems inherent to the use of these methods, such as the definition and estimation of the cost of capital and the incorporation of risk analysis

III. REVIEW OF LITERATURE

1. The Internal Rate Of Return (IRR) was the most popular technique at that time (Gitman and Forrester, 1977’s)

2. The company prefer the IRR methods, with the payback period being a supplementary tool (Scott and Petty, 1984)

III. REVIEW OF LITERATURE(continued)

3. Develop an alternative yield-based capital budgeting technique, The Marginal Return on Invested Capital (MRIC), (McDaniel, McCarty, and Jessel, 1988)

4. US companies use hurdle rates than their estimated cost of capital for the evaluation of investment project (Porter, 1992)

III. REVIEW OF LITERATURE(continued)

5. Result that it is best not to rely on any single capital budgeting techniques but instead to apply all of them or as many of them possible for a project evaluation (Hatfield, Horvath, and Webster, 1998)

6. A quarter of sample do not use a capital budgeting technique for the performance and value measures of their firms (Lazaridis and Lyroudi, 2001)

IV. METHODOLOGY USED

1. Research material was collected by questionnaire, which was improved and was finalized through discussion with experts and executive of Cyprian business

2. The questionnaire was promote in March 2001 to 100 selected enterprises from all over the Republic of Cyprus

V. Profile of The Surveyed Companies

The economic building construction industry (15%), the food industry (6,67%)Largely employed 20 to 49 (small and medium-sized companies)Domestic operations66,67% of them have been in operation for about 26 yearsLow level of total asset

VI.SURVEY RESULTVI.SURVEY RESULT

Reasons that several firms do not use any investment evaluation technique

Not familiar with this methods (50%)

Do not believe that such meyhods could change their profits s substantially (33,33%)

Do not have the staff, time, and experience

The survey shows that only 30,19% of the sample firms use capital budgeting techniques for all their investment decision, while 50,94% of firms use evaluation methods for only some types of investment above a certain cost level

Reasons that several firms do not use any formal approach to determine their cost of capital

Does not effect their profits (40%) Lack staff, time and experience (60%)

Noted : Determine the cost of capital on a before –

taxes basis (54%) After taxes basis (40%)

VI. OVERVIEW AND CONCLUSSION The most preferred technique by

practitioners was the payback period (36,71%) and not the NPV recommended by the academicians

A significant percentage of the firms do not use any formal capital budgeting technique

VI. OVERVIEW AND CONCLUSSION (continued) Cost of capital is determined basically

according to the cost of borrowing Small and medium size enterprise in Cyprus,

do not follow scientific evaluation techniques probably due to lack of familiarity with such methods