Capital Allocation Rules and the No-Undercut Property

Question 3 (Morgan)

For this discussion, I have chosen to use the article titled Capital Allocation Rules and the No-Undercut Property. The way this article describes capital allocation is by measuring financial risk by implementing the capital allocation rule to determine profit or loss. Similarly to the book, this article discusses that a key purpose for a firm is to distribute the cost of capital and compare it through their performance in what is returned of that allocated capital. Block, Hirt, and Danielsen (2019) described capital allocation as measuring each project against the overall cost of the funds to the firm. Both of these theories that are explained in both the article and the book demonstrate how whatever risk is taken must be measured and reflected through capital allocation. Capital allocation should be approached as being reasonable for necessary properties and give value of the business performance.

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According to Block, Hirt, and Danielsen (2019), weighted average of cost capital must be reduced by debt financing. Weighted average of cost capital is used to make investment decisions because it assists with debt financing. Canna, Centrone, and Gianin (2021) described how banks and financial institutions face different sources of riskiness and need to guarantee the ability to hedge such riskiness. In order for investment decisions to be made, these banks and financial institutions need to be able to understand where they need to have their debt, preferred stock, common equity, and weighted average cost of capital come in at for them to still make profit.

 

 

Question 4 (Akira)

The capital allocation rule is used in this article to determine profit or loss by measuring financial risk. In a similar vein to the book, this article outlines how a firm’s primary goal is to spread the cost of capital and compare it to the amount of money returned on that capital. According to Block, Hirt, and Danielsen (2019), capital allocation is defined as weighing each project against the overall cost of finances to the company. These theories, which are discussed in the article and the book, show how any risk must be quantified and expressed through capital allocation. The capital allocation should be viewed as acceptable for essential properties and should reflect the value of the company’s performance. Because it helps with debt financing, the weighted average of cost capital is utilized to make investment decisions. Canna, Centrone, and Gianni explained how banks and financial institutions are exposed to various sources of risk and must ensure the ability to mitigate such risk. These banks and financial institutions must comprehend where their debt, preferred stock, common equity, and a weighted average cost of capital must come to make a profit still to make investment decisions.

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