Capital Valuation, What is it and Why does it Matter? Insights from Austrian Capital Theory
Abstract
The ability to rationally evaluate time-consuming productive activities is what distinguishes capitalism from alternative social systems. Capital-accounting provides the framework for such evaluations that allow decision-makers to calculate the relative values to them of alternative productive activities. In this paper I show how insights from Austrian Capital Theory help to understand this process of evaluation. Austrian economics stresses that evaluation is an essentially subjective process. Entrepreneurs’ estimates of future earnings, which depend on the consumers’ subjective evaluations of the produced products, will vary and they must compete for productive resources in a dynamic trial and error social process. Entrepreneurial evaluations, nevertheless, can be described in terms of familiar financial concepts that encapsulate both the capital-value and the duration of any contemplated business venture. Value and time are the two essential dimensions of dynamic business valuation. I examine these concepts with a view to describing that social process, using what can be known and what needs to be imagined. I conclude that there is no silver bullet formula or method to evaluate a business that would give an objectively correct answer – obviously not, or else we would not have need of a competitive market process – but there are certain logical elements that are universal in any production evaluation decision that should be emphasized.
Acknowledgments
Prepared for a conference in August 2016 at the Free Market Institute at Texas Tech University in Lubbock, TX on contributions from Austrian Economics to questions of business valuation, organized by Alex Salter and Brad Ewing. Special thanks to the participants for comments received. Especially helpful comments from Dan D’Amico, Mike Giberson, Michael Markovi and Robert Murphy are gratefully acknowledged.
References
Boettke, P. J. 1998. “Economic Calculation: The Austrian Contribution to Political Economy.” Advance in Austrian Economics 5:131–58.10.4324/9780203469682.ch3Search in Google Scholar
Böhm-Bawerk, E. V. 1890. Capital and Interest: A Critical History of Economical Theory. Translated by W. Smart. London: Macmillan.Search in Google Scholar
Cachanosky, N., and P. Lewin. 2014. “Roundaboutness Is Not a Mysterious Concept: A Financial Application to Capital Theory.” Review of Political Economy 26 (4):648–65.10.1080/09538259.2014.957475Search in Google Scholar
Coase, R. 1937. “The Nature of the Firm.” Economica 4 (16):386–405.10.1111/j.1468-0335.1937.tb00002.xSearch in Google Scholar
Coleman, L. 2014. “Why Finance Theory Fails to Survive Contact with the Real World: A Fund Manager Perspective.” Critical Perspectives on Accounting 25:226–36.10.1016/j.cpa.2013.02.001Search in Google Scholar
Foss, N. J., and P. G. Klein. 2012. Organizing Entrepreneurial Judgement: A New Approach to the Firm. Cambridge: Cambridge University Press.10.1017/CBO9781139021173Search in Google Scholar
Hayek, F. A. 1945. “The Use of Knowledge in Society.” American Economic Review 35 (4): 519–30.Search in Google Scholar
Hering, T., C. Toll, and K. K. Polina. 2014. “How to Compute a Decision-Oriented Business Value for a Company Sale.” Journal of Accounting, Finance and Economics 4 (1):43–52.Search in Google Scholar
Hicks, J. 1939. Value and Capital. Oxford: Oxford Universit Press.Search in Google Scholar
Kirzner, I. 1996. “Ludwig Von Mises and the Theory of Capital and Interest.” In edited by I. Kirzner, Essays on Capital and Interest – Essay 3 (1974), 134–153. Cheltenham: Edward Elgar.10.4337/9781035303359.00012Search in Google Scholar
Knight, F. 1921. Risk, Uncertainty and Profit. Boston: Hart, Schaffner & Marx; Houghton Mifflin Co. http://www.econlib.org/library/Knight/knRUP.html.Search in Google Scholar
Lachmann, L. M. 1945. “The Role of Expectations in Economics as a Social Science.” Economica 10:65–81; reprinted in Capital, Expectations, and the Market Process: Essays on the Theory of the Market Economy, ed. with an Introduction by Walter E. Grinder (Kansas City: Sheed Andrews and McMeel, 1977).10.2307/2549651Search in Google Scholar
Lachmann, L. M. 1956. Capital and its Structure. Kansas City, MO: Sheed Andrews and McMeel.Search in Google Scholar
Lewin, P. 1998. “The Firm, Money and Economic Calculation.” American Journal of Economics and Sociology 10:499–512.10.1111/j.1536-7150.1998.tb03378.xSearch in Google Scholar
Lewin, P. [1999] 2011. Capital in Disequilibrium, 2nd ed. Auburn: Ludwig von Mises Institute.Search in Google Scholar
Macaulay, F. R. 1938. The Movements of Interest Rates. Bond Yields and Stock Prices in the United States since 1856. New York: National Burea of Economic Research.Search in Google Scholar
Menger, C. 1871. Principles of Economics. Translated by J. D. Hoselitz. Auburn: Ludwig von Mises Institute, 2007.Search in Google Scholar
Mises, L. V. 1980 [1951]. Profit and loss. In edited by L. V. Mises, In planning for freedom. Spring Mills.Search in Google Scholar
Mises, L. V. 1949. Human Action. New Haven: Yale University Press; The Scholar’s Edition, Auburn, Ludwig von Mises Institute (1998).Search in Google Scholar
Oldbrich, M., T. Quill, and D. J. Rapp. 2015. “Business Valuation Inspired by the Austrian School.” Journal of Business Valuation and Economic Loss Analysis 10 (1):1–42.10.1515/jbvela-2014-0001Search in Google Scholar
Osborne, M. 2014. Multiple Interest Rate Analysis: Theory and Applications. Houndmills and Basingstoke: Palgrave.10.1057/9781137372772Search in Google Scholar
Sack Elmaleh, M. 2009. “Qualitative Judgments and Consistency in Business Valuation.” Journal of Business Valuation and Economic Loss Analysis 4 (1):Article 6.10.2202/1932-9156.1056Search in Google Scholar
Schumpeter, J. 1911 [1982]. The Theory of Economic Development. Piscataway, NJ: Transaction Publishers.Search in Google Scholar
© 2017 Walter de Gruyter GmbH, Berlin/Boston
Articles in the same Issue
- Private Governance and the Pricing of Political Enterprises
- Investment in New Proved Oil Reserves: An Austrian Perspective
- Economic Calculation and the Productivity of Investment
- Incorporating Social Capital into the Austrian Business Cycle Theory
- Austrian Economics, Market Process, and the EVA® Framework
- Capital Valuation, What is it and Why does it Matter? Insights from Austrian Capital Theory
- Adversarial versus Inquisitorial Systems: Error and Valuation
Articles in the same Issue
- Private Governance and the Pricing of Political Enterprises
- Investment in New Proved Oil Reserves: An Austrian Perspective
- Economic Calculation and the Productivity of Investment
- Incorporating Social Capital into the Austrian Business Cycle Theory
- Austrian Economics, Market Process, and the EVA® Framework
- Capital Valuation, What is it and Why does it Matter? Insights from Austrian Capital Theory
- Adversarial versus Inquisitorial Systems: Error and Valuation
