One Friday afternoon years ago I was sitting in my office as the CEO of a...

One Friday afternoon years ago I was sitting in my office as the CEO of a young software company, when my department heads of software development and finance came in separately to each request an additional $125,000 in funding. My software development director wanted new product testing equipment and my CFO wanted to upgrade our accounting and business systems software. Both were legitimate requests that would help move the business forward. I couldn’t help but laugh: In the span of 10 minutes I was being asked to approve two unplanned expenses of $125,000, and they were as different as apples and oranges. Framing the Problem This story captures the dilemma faced by CEOs every day and is unique to the job. How do you compare two expenses that have almost no relation to each other?

When you have to decide between two expenses, you choose the one that you think based upon your experience will generate the most.

True or False and why please:)

Solutions

Expert Solution

To compare the two expenses that have almost no relation to each other the CEO should first of all spell out the financial goals of his company. In other words the CEO should seek to find if the goal of his company is to maximize revenue or is it to achieve revenue growth with a minimum amount of profitability? There is always a trade-off between growth and profitability and it will be the CEO’s task to determine at which point of growth and profitability trade-off he wants his company to be in.

Thus to compare the two expenses that are not related to each other the CEO should first determine the importance of each expense to the respective departments (i.e. the software development department and the finance department). He should then do an incremental analysis to find out the impact if these expenses are approved. The impact should be assessed department wise as well as for the overall company. The impact should be measured by determining growth of revenues, growth of profitability etc. if these expenses are approved.

When you have to decide between two expenses, you choose the one that you think based upon your experience will generate the most: This statement is false. This is because it is not always that you can decide on funding an expense based on its cash flows and resource generation capacity. You also have to consider and weigh in the strategic and long term impact of this expense.

ekkarill92 answered 1 month ago

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