Performing the capital budgeting analysis

Question

Explain difference between performing the capital budgeting analysis from the parent firm’s perspective as opposed to the project perspective.

Answer 1

Main goal of financial manager of the parent firm is to increase its shareholders’ wealth. Capital project of the subsidiary of parent may have a positive NPV from the perspective of the subsidiary but yet have a negative NPV from perspective of the parent if particular cash flows may not be repatriated to parent due to remittance restrictions by host country, or if home currency is likely to be appreciated substantially over the life of project, producing the unattractive cash flows when converted into home currency of the parent.  Moreover, higher tax rate within the home country may cause project to become unprofitable from the perspective of the parent.  Any of these many reasons may result within the project being unattractive to the parent and the parent’s stockholders.