An optimised multiple test framework for project selection in the private sector

Conventional approaches to project selection in the private sector are centred upon single hurdle tests of net present value (NPV) using a discount rate incorporating the opportunity cost of equity capital, intended to embody risk considerations. There are fundamental problems with such approaches. This paper argues that the roots of these problems are simplistic framing assumptions which embed too many considerations in the discount rate. A multiple test approach to address all the issues that need to be considered is outlined. The process which is used to implement the test is designed to be efficient, flexible, and to promote the effectiveness of project choices. An example involving the privatised water industry in the UK illustrates how it works. The proposed framework should be of interest to those interested in private sector projects in the UK and elsewhere, and its generalisation has implications for public sector projects and public private partnerships (PPPs).