Inter-temporal cost allocation and investment decisions

Arbeitspapier

This paper considers the profit maximization problem of a firm that must make sunk investments in long-lived assets to produce output. It is shown that if per period accounting income is calculated by using a particular allocation rule for investment called the relative benefit and replacement cost (RBRC) rule, that, in a broad range of plausible circumstances, the fully optimal sequence of investments over time can be achieved simply by choosing a level of investment each period to maximize next period's accounting income. In the basic model, it is assumed that there is a single centralized decision maker so the role of the cost allocation rule is that it simplifies the seemingly-complex multi-period optimization problem by decomposing it into a series of simple single period problems. An extension to the basic model considers the case where shareholders delegate the investment decision to a better-informed manager. It is shown if accounting income based on the RBRC allocation rule is used as a performance measure for the manager, robust incentives are created for the manager to choose the profit maximizing level of investment regardless of the manager's own personal discount rate.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: CSIO Working Paper ; No. 0077

Classification and Topics

• Classification: Wirtschaft

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Rogerson, William P.
• Event: Veröffentlichung
• (who): Northwestern University, Center for the Study of Industrial Organization (CSIO)
• (where): Evanston, IL
• (when): 2006

Further information

• Handle: http://hdl.handle.net/10419/38694
• Last update: 10.03.2025, 11:41 AM CET