Capital Allocation: Evidence, Analytical Methods, and Assessment Guidance - by Michael Mauboussin and Dan Callahan
- Capital allocation is a senior management team’s most fundamental responsibility. The problem is that many CEOs don’t know how to allocate capital effectively. The objective of capital allocation is to build long-term value per share.
- Capital allocation is always important but is especially pertinent today because return on invested capital is high, growth is modest, and corporate balance sheets in the U.S. have substantial cash.
- Internal financing represented almost 90 percent of the source of total capital for U.S. companies from 1980-2013.
- M&A, capital expenditures, and R&D are the largest uses of capital for operations, and companies now spend more on buybacks than dividends.
- This report discusses each use of capital, shows how to analyze that use, reviews the academic findings, and offers a near-term outlook.
- We provide a framework for assessing a company’s capital allocation skills, which includes examining past behaviors, understanding incentives, and considering the five principles of capital allocation.
