Integration and Competition in the Petroleum Industry

By Melvin G. De Chazeau; Alfred E. Kahn | Go to book overview

CHAPTER 11
The Criteria of Investment Decisions

INVESTMENT is crucial to the successful development and growth of the firm, so vital that more than any other function of management it is hedged about with administrative reviews and opportunities for veto.1 It is difficult to conceive of a major business decision -- whether to enter a new market, expand in an old one, or merely protect an established market position -- in which investment does not play a central role. This becomes more self-evident when investment is in- terpreted in its economic sense, to embrace all expenditures made to enhance future earnings -- advertising, research and development, personnel training, as well as the more familiar expansion of plant, equipment, and other facilities -- no matter how they may be charged in the accounts. The decision to integrate is itself a decision to invest.

The petroleum industry is outstanding in the amount of capital re- quired, to provide for growth and for the high rate of obsolescence attending many of its processes, and in the risk associated with many of its capital expenditures.2 A prominent defense of business size and integration in oil is the view that they are necessary conditions of efficient marshaling of the funds required for growth and progress, for expansion of facilities, and for innovation, all in the face of unusual risks. A prominent criticism is that integration imposes capital re- quirements on potential entrants so much higher than would otherwise be needed that it sharply alters the character of competition in oil and

____________________
1
Central control of capital outlays has survived the decentralization of managerial responsibilities -- one of the most distinctive characteristics of modern large-scale industrial organization. Even the top management of large corporations is often restricted to discretionary expenditures of only a few thousands of dollars without approval of the Board of Directors. After general approval and budget authorization, project expenditures may still face the ordeal of review and subsequent cutback before actual appropriation of funds.
2
Without prejudging the broader issue of whether the aggregate investment over an appreciable period of time by a large oil company runs a greater risk than a similar investment in other industries, it may be observed that individual sums of very great amount can be lost totally in a way that few other industries can duplicate.

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