Components of Capital Expenditures: Replacement and Modernization Versus Expansion

Abstract

PROBABLY more than half of capital expenditures involve in one sense or another the replacement of existing stock. Among competing hypotheses as to the timing and determinants of replacement expenditures are: (1) they are a fairly constant proportion of capital; (2) they substitute for expansion expenditures, thus stabilizing the annual rate of investment, falling when expansion rises and rising when expansion decreases; (3) they are tied closely or are essentially equal to depreciation charges; (4) they vary with the current rate of profit or flow of funds; (5) they are positively related to the age of capital stock. McGraw-Hill capital expenditure survey data and collateral statistics offer a unique opportunity to test these and related hypotheses. In a recent article, Feldstein and Foot (1971) have utilized McGraw-Hill aggregative reports, along with series from the Department of Commerce on planned capital expenditures. and from the Federal Trade Commission and Securities Exchange Commission on flow of funds, in an analysis of replacement expenditures. This paper offers a partly parallel analysis of both replacement and expansion expenditures on the basis of individual firm data. Key to the analysis is a question which has been included in the McGraw-Hill spring surveys in the years 1952 through 1955 and 1957 to date: Of the total amount you now plan to invest in new plants and equipment in [the current year] how much is for: expansion %; replacement and modernization % ? By applying the indicated proportions to anticipated and actual capital expenditures, estimates have been obtained of expenditures for replacement and modernization and expenditures for expansion. For actual expenditures these estimates related to from 112 to 254 firms in each of the fourteen years from 1954 to 1968, excluding 1956; 1 estimates of anticipated expenditures were available for approximately the same firms. The basic data, price-deflated and otherwise processed as previously reported,2 are as follows: