What rates of return do major US firms require to invest?

In my post on Saturday about the appropriate New Zealand public sector discount rate, I linked to an article from the Reserve Bank of Australia’s Bulletin which included the results of a survey in which Australian firms’ CFOs were asked what hurdle rates of return their firm used in evaluating proposed investment projects.

This was the chart of those survey results:

rba hurdle rate

Prompted by a commenter, I was curious whether there was something similar for the US.  I found this JP Morgan piece, undated but apparently from last year, which reports the hurdle rates that some major US firms have disclosed.  Here was the chart, and a little commentary, from that piece.

JPM US hurdle rates

If anything, this small sample of US firms had eve higher hurdle rates than the Australian firms.

In both cases, there are a few companies using hurdle rates as low as the 8 per cent real recommended by New Zealand’s Treasury for evaluating public sector investment and regulatory proposals, but not many.  As JPM point out, these high hurdle rates are a little surprising, and it may be that firms are missing out on some opportunities, but firms are presumably making decisions that appear rational to them, subject to the threat of takeover if they underperform.

Government finances are quite highly cyclical, and it seems to me that we would need a pretty compelling case for encouraging governments –  which face rather weak disciplines –  to use our money more freely than private businesses would do.  Things governments really need to do –  true public goods –  should easily pass high hurdle rate tests.

3 thoughts on “What rates of return do major US firms require to invest?

  1. Or maybe the seemingly high hurdle rates reflect institutional rules of thumb about what returns a firm can actually expect as against what the investments’ proponents claim?

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  2. US corporates may have the luxury of being able to choose only high yielding projects. Wouldn’t that be nice to be able to limit yourself to investments that returned 20%pa or more.

    I would like government to avoid wasting money, and limit themselves to only doing investments that financially make sense. Then I thought two things 1) if the investments “made sense” financially then the private sector would/could do them, 2) therefore couldn’t one argue it is logical for the government to limit themselves to only the investments that don’t “make sense” financially, and leave everything else for the private sector?

    Then I saw your final comment “Things governments really need to do – true public goods – should easily pass high hurdle rate tests.” Thinking of all the government departments, are most things they do a good use of money? MBIE, MFAT, are they good investments? Health, education, social welfare, what are their ROI? What am I missing about your suggestion?

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  3. I think the strong case for government spending is in respect of those things markets can’t do (defence, law and order, the courts and the rule of law, national statistics and so on). Of course, there is no guarantee that marginal projects even in these areas will offer high returns, so we shouldn’t just sign off on them because they are in these broad areas.

    Health and education projects are relatively easy (conceptually) to do a cost-benefit analysis on, and since most of the benefits are private benefits, it isn’t clear why we would use discount rates less than the private sector does. Take schooling as an example, if the government hadn’t largely displaced the private sector, we would each make decisions at the margin about how much, and what type, of schooling to purchase for our kids. Even now, we make that in respect of the public vs private choice, or whether or not to buy in the Grammar zone.

    The framework doesn’t apply to pure redistribution (the benefit system)

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