Net Present Value-Consistent Investment Criteria Based on Accruals

Abstract

In recent years, many firms have favoured residual income for value based management. One main argument for this measure is its identity with the net present value rule and that this compatibility with the net present value rule holds true for all possible depreciation schedules selected. In this article, we analyse whether there are other, undiscussed, accrual accounting numbers that enable net present value-consistent investment decisions for all possible depreciation schedules. Our analysis provides an if-and-only-if characterisation of the entire class of net present value-consistent investment criteria, based on accounting information. This provides new insights into the residual income concept, hurdle rates, opening and closing error conditions achieved by applying more common performance measure structures, and allocation rules. Moreover, our analysis shows the limits of constructing such investment criteria.