|
MANAGEMENT AND ACCOUNTING WEB |
|
Engwall, R. L. 1988. Investment evaluation methodologies.
Journal of Cost Management (Spring): 40-44.
Summary by Chris Hourigan |
This article introduces a new approach for evaluating investment opportunities. The author points out problems associated with the old way of emphasizing Earnings Per Share (EPS). EPS is very narrowly focused on the way it evaluates how a company is operating and therefore, is open to misleading management to accept investment opportunities, when given other factors, they would not. The new approach is the Multiple Attribute Decision Model (MADM), and it is designed to include 3 critical factors:
financial quantitative,
nonfinancial quantitative, and
qualitative.
By objectively setting these factors all projects can be evaluated equally and therefore, make it easy for management to choose between alternatives.
The Multiple Attribute Decision Model essentially sets up a decision table that is predetermined for their individual values as not to bias any one project.
There are five factors encompassing the financial quantitative critical
criteria:
operating margin,
net present value,
level of investment per time period,
level of savings per time period, and
other.
There are four factors encompassing the nonfinancial quantitative critical
criteria:
throughput time,
process yield,
schedule attainment, and
lead-time.
Finally, there are five factors encompassing the qualitative critical
criteria:
process,
product,
technology,
basic R&D,
and other.
All of the weights of these factors must sum to 100, and all are original to each company. For example, one company might not have any technology costs.
When implemented MADM should be able to be used across a wide spectrum of investment opportunities. It also should be able to intermingle opportunities together on the same chart to be able to fine tune opportunities and to see two opportunities together. But to be able to accomplish this the chart must be set up correctly and independently of all opportunities.
The author is on track by introducing a wide variety of criteria into the decision making process, but the downfall might be the practicality of MADM. The process is very detailed and complex, and therefore, it would be very hard to implement by most companies. Furthermore, a team with individual specialties in such areas would also be needed. MADM might work rather well in achieving its goal of pointing management in the right direction of which investment opportunity to choose in order to move the company towards its goal, but the difficulty lies in setting up MADM to correctly do so. (A note on the MADM approach appears in the Investment management summary).
| CAM-I Main Page | Investment Management Main Page |
