Multistage Capital Budgeting for Shared Investments

This paper studies the performance of delegated decision-making schemes in a two-stage, multidivision capital budgeting problem for a shared investment with an inherent abandonment option. Applying both robust goal congruence and sequential adverse selection frameworks, we show that the optimal capital budgeting mechanism entails a capital charge rate above the firm's cost of capital in the first stage but below the cost of capital in the second stage. Further, the first-stage asset cost-sharing rule depends only on the relative divisional growth profiles, and equal cost sharing can be optimal even when the divisions receive significantly different benefits from the shared investment project. In the presence of an adverse selection problem, all agency costs are incorporated into the second-stage budgeting mechanism, leaving the first-stage capital charge rate and asset-sharing rule unaffected even though the agency problem induces capital rationing at both stages. This paper was accepted by Mary Barth, accounting.