Investment appraisal - qualitative factors
We have examined the numerical methods of performing investment appraisal. It is vital, however, that you appreciate that this is an aid to decision-making, not a decision maker in itself. People make decisions and have to take into consideration a wide range of non-financial factors. By definition, non-financial factors cannot be taken into account when doing payback periods, average rates of return and net present values.
What are these non-financial factors?
They can be summarised under the headings of:
Let's examine each of these in more detail.
- Personnel factors - numerical measures cannot account for the availability of skills, effect of redundancy and concerns about relocation. It cannot account either, for the personal preferences of Directors and Managers.
- Objectives - firms have to set action standards. These should reflect likely external changes such as interest rate trends, inflation trend and the change in the economy. People who have individual objectives also set them. Whether the firm wants high or low returns, if it after short-term or long-term gains is a matter of personal decision, not numerical fact. A good project may be turned down for short-term, non-financial reasons. Corporate objectives may overtake financial figures and information.
- Image - decisions are taken often so as to maintain or improve the image of the company in the eyes of some or all of the stakeholders.
- Risk - risk management is important, but difficult to enumerate. Degrees of risk are hard to decide, and may be more a matter of opinion than fact. Allowance for risk may lead to high action standards being set.