Your business units are competing for capital. Do you know the rules?
A company is also an internal capital market. The crucial question is: according to which rules is capital allocated?
BOARDROOM QUESTIONS
The questions your portfolio should be able to answer.
Business Unit A wants a new production line.
Business Unit B wants to tap into a new market.
Business Unit C requires 40 million euros for automation.
Business Unit D is planning a new logistics centre.
Business Unit E wants to modernise its digital infrastructure.
Every project has a business case.
Every business unit has strong arguments.
Every unit has its own priorities.
But they all draw on the same resource:
the company’s capital.
This creates an internal capital market.
The crucial question is:
According to which rules is this capital allocated?
Capital Has No Business Unit.
Capital does not belong to production.
Not
to IT.
Not to sales.
Not to the supply chain.
Not to any one region.
And not to the business unit with the most convincing presentation.
Capital belongs to the company.
Its role is to be deployed where it can generate the highest value contribution within the defined corporate objectives.
This is precisely why capital allocation should not be viewed exclusively from the perspective of individual business units.
Each business unit initially optimises its own world
That is understandable.
The head of a business unit knows their customers.
His markets.
His production problems.
His growth opportunities.
His risks.
His projects.
If he could invest 100 million euros, he would probably know exactly where this capital should be deployed within his division.
But the CFO may not have 100 million euros for this business unit.
He has 500 million euros for the entire company.
And six business units are collectively requesting 850 million euros.
Local optimisation is no longer sufficient.
850 million euros in demand. 500 million euros in capital.
Let’s take a simplified example.
Business Unit A: €180 million CAPEX requirement
Business Unit B: €150 million CAPEX requirement
Business Unit C: €140 million CAPEX requirement
Business Unit D: €130 million CAPEX requirement
Business Unit E: EUR 120 million CAPEX requirement
Business Unit F: EUR 130 million CAPEX requirement
Total:
EUR 850 million.
Available CAPEX:
EUR 500 million.
EUR 350 million cannot be financed.
Now the actual capital allocation begins.
The simplest solution is rarely the most intelligent
One could cut each business unit by the same percentage.
A requirement of 850 million euros.
500 million euros available.
So each division receives only a proportionate share of its original request.
That seems fair.
But fairness between business units does not automatically equate to optimal capital allocation.
Allocating capital proportionally does not answer the question of which combination of projects generates the highest enterprise value.
Business units are not CAPEX pools
Budgets that have evolved over time can lead to capital being allocated to divisions first and only subsequently distributed within those divisions.
Business Unit A, for example, receives 100 million euros.
Business Unit B
receives
80 million.
Business Unit C
receives
70 million.
And so on.
This
means
that part of the capital allocation decision has already been made before individual projects have had a chance to compete with one another across divisional boundaries
.
The company may then find itself optimising six sub-portfolios instead of a single overall portfolio.
What if all projects had to compete for the same capital?
Now the perspective changes.
No longer:
“How much budget does Business Unit A get?”
But
rather:
“Which projects across all business units collectively generate the best capital allocation for the company?”
That is the logic of an internal capital market.
Capital does not automatically flow according to organisational affiliation.
Investment opportunities compete with one another.
This does not mean that ROI is the only deciding factor
An internal capital market should not be confused with a simple ranking of returns.
The project with the highest ROI does not automatically have to be funded.
Companies have other criteria.
Resources.
Dependencies.
Mandatory investments.
Strategic priorities.
Risks.
Capacity limits.
Time
horizons.
Other operational and financial constraints.
The question is therefore not: Which business unit has the highest ROI?
The question is: Which combination of all available investments best meets the company’s objectives within the defined conditions?
But does everyone follow the same rules?
This is precisely where governance comes in.
Business Unit A may believe that growth is the top priority.
Business Unit B focuses on optimising cash flow.
Business Unit C argues on the basis of strategic relevance.
Business Unit D concentrates on productivity.
Business Unit E assumes that its historical budget will also be available next year.
In that case, projects do compete for capital.
But perhaps not according to the same rules.
An internal capital market requires a decision architecture
Before projects can be compared with one another, the decision-making logic must be clear.
What does the company want to achieve?
What are the relevant financial targets?
What are the relevant strategic criteria?
What constraints apply?
Which projects are mandatory?
Which resources are in short supply?
Which dependencies must be taken into account?
What data must all business units provide?
How are projects evaluated?
Who validates the assumptions?
Only common rules can create a common capital market.
Rule #1: Same Data Logic
If Business Unit A calculates its business case over five years and Business Unit B over ten years, a fair comparison cannot be made.
The same applies if one division fully factors in internal resources whilst another does not.
If risks are treated differently, the comparison becomes distorted.
The same applies if strategic criteria are interpreted differently.
Capital allocation requires a common data and valuation framework.
Rule #2: Same Strategic Criteria
‘Strategic’ must not mean something different in every business unit.
Management should define which strategic criteria are relevant to the company as a whole.
For example:
Growth.
Productivity.
Digitalisation.
Resilience.
Innovation.
Sustainability.
Market
access.
Business units can then demonstrate how their projects contribute to these shared objectives.
A corporate strategy requires a company-wide language.
Rule #3: Same Constraints
Constraints must also be considered at company level.
A business unit may have sufficient budget for a project.
But perhaps it lacks engineering capacity.
Or IT resources.
Or production capacity.
Or management capacity.
Perhaps projects from different business units are competing for the same specialists.
A local budget cannot resolve a global resource constraint.
Rule #4: No Automatic Right to Last Year’s Capital
One of the most interesting questions in an internal capital market is:
Why should a business unit automatically receive the same amount of capital again next year?
Perhaps it has excellent investment opportunities.
In that case, more capital may be appropriate.
Perhaps the best projects have already been implemented.
In that case, less capital may be appropriate.
Perhaps another area now offers significantly more attractive investment opportunities.
Historical capital allocation is not an automatic justification for future capital allocation.
Capital Should Be Re-Earned.
This does not mean that all investments must start from scratch every year.
Multi-year commitments, ongoing projects and operational realities exist.
But new available capital should not be allocated solely on the basis of historical budget structures.
Capital should be reallocated to where projects make the strongest contribution under the current corporate objectives and constraints.
This changes the role of the business units
The business unit then does not simply request:
“We need 120 million euros
.”Instead, it brings investment opportunities into the company-wide decision-making process.
Project A.
Project B.
Project C.
Along
with capital requirements.
Expected value contribution.
Strategic criteria.
Resources.
Dependencies.
Risks.
And other relevant conditions.
The business unit no longer defends its budget allocation.
Instead, it competes with other investment opportunities for corporate capital.
This also changes the role of the CFO
The CFO is then no longer merely responsible for allocating budgets between departments.
He can take a company-wide view of the capital market.
Where do the most attractive investment opportunities arise?
Where does additional capital yield the highest expected marginal return?
Where are the relevant resources already utilised to full capacity?
Which areas could usefully absorb additional capital?
Where would a reduction in capital have only a minor impact?
Where, on the other hand, would a cut destroy strategically important project chains?
Capital allocation thus becomes a company-wide portfolio decision.
The boundary between business units may be economically irrelevant
Let us imagine two projects.
Project A belongs to Business Unit 1.
Project B belongs to Business Unit 2.
Both require 20 million euros each.
Within the defined model, Project B makes a greater contribution to the company’s objectives.
However, if Business Unit 1 still has budget available and Business Unit 2 has exhausted its budget, Project A could be funded and Project B deferred.
From an organisational perspective, this is understandable.
From the perspective of company-wide capital allocation, however
,
this may be questionable.
The organisational chart should not automatically determine where the next euro of CAPEX generates the highest value.
The internal capital market makes opportunity cost visible
If Business Unit A receives an additional 30 million euros, the question is not just:
“What will A do with the 30 million?”
The second question is:
“What will the company no longer be able to do with these 30 million?”
Perhaps Business Unit B will lose a digitalisation project.
Perhaps an automation project in Business Unit C will be postponed.
Perhaps a growth project in Region D cannot be implemented.
Every allocation of capital has a displaced alternative.
This is the true competition for capital
Business units therefore do not merely compete with one another.
Projects compete with alternatives.
50 million euros for a new production line competes with:
30 million euros for automation plus 20 million euros for digitalisation.
Or with:
25 million euros for market entry plus 15 million euros for product development plus 10 million euros for resilience.
The relevant unit of decision-making is therefore not necessarily a single project.
It is the combination of projects.
Business Unit A may lose – yet the company may
stillwin
This is perhaps the most difficult realisation from an organisational perspective.
A business unit may receive less capital than it has requested.
Its projects may be profitable when viewed in isolation.
Its reasoning may be entirely plausible.
And yet the decision may still be better for the company as a whole.
A local sacrifice can form part of a better overall portfolio.
This is precisely why capital allocation requires a level above the individual business units.
And Business Unit B may suddenly be allocated more capital
The same applies in the opposite direction.
If a business unit has exceptionally attractive investment opportunities, mathematical portfolio analysis can show that additional capital there generates a high marginal benefit.
This then raises a new question:
Why should this unit remain limited to its historical budget?
Perhaps capital should be reallocated from other areas.
Perhaps the overall budget should be increased.
Perhaps, however, resource constraints are preventing further expansion.
The internal capital market makes these limits visible.
Now comes the boardroom
question
500 million euros in CAPEX.
Six business units.
200 projects.
The CEO asks:
“What happens if we remove the budget constraints on the business units and calculate all projects as a single corporate portfolio?”
That is a powerful question.
Because now it becomes clear just how strongly the organisational budget structure influences capital allocation.
Perhaps the portfolio will remain almost identical.
Perhaps 20 million euros will be reallocated.
Perhaps 100 million.
Perhaps the mix of projects will change fundamentally.
The difference shows the influence that internal capital limits have on portfolio decisions.
Then comes the second question
The CFO says:
“We cannot completely abolish the divisional budgets. But let 20 per cent of CAPEX compete freely across all business units.”
New constraint structure.
New calculation.
The CEO asks:
“And what about 30 per cent?”
New calculation.
“And what if we only consider strategic growth investments across all divisions?”
New calculation.
Now an abstract governance issue becomes a quantifiable capital allocation decision.
An internal capital market does not mean unlimited centralisation
It would be too simplistic to say:
Abolish all budgets. Decide everything centrally.
Business units need operational autonomy.
They possess local information.
They know the markets and customers.
Certain investment decisions need to be made quickly.
And not every small investment needs to be taken to the board.
The real question is therefore:
Which part of capital allocation should be decentralised – and which part should be optimised at group level?
Governance can link both levels
A company could, for example, define:
Certain operational investments remain within local budgets.
Larger strategic investments compete on a company-wide basis.
Mandatory investments are considered separately.
A defined portion of CAPEX is deliberately treated as a flexible capital pool.
The specific structure depends on the company.
It is crucial that the rules are explicit.
Do They Know the Rules?
This is perhaps the most important question.
Do the business units:
know
the criteria by which their projects are assessed?
What strategic objectives apply?
Which financial indicators are relevant?
Which constraints are taken into account?
What data is expected?
How are projects from different areas compared with one another?
Which projects are mandatory?
Who makes the final decision?
An internal capital market functions better when its rules are known before a decision is made.
Transparency changes the nature of competition
Without common rules, business units may compete on the basis of influence, history, argumentation and negotiation.
A common decision architecture changes the nature of the discussion.
It is more about:
value
contribution.
Strategic contribution.
Capital
requirements.
Resources.
Dependencies.
Constraints.
Opportunity cost.
And portfolio fit.
Competition for capital is not being abolished.
It is being given a more explicit decision-making logic.
CAPEX Live Boardroom Simulation
Now the Executive Board can directly compare different rules of the internal capital market with one another.
Scenario 1: Historical business unit budgets.
Calculate portfolio.
Scenario 2: 20% flexible company-wide capital pool.
Recalculate portfolio.
Scenario 3: No divisional budgets for strategic investments.
Recalculate the portfolio.
Scenario 4: Growth is given higher priority.
Recalculate the portfolio.
The results are then compared.
Which projects change?
How much capital moves between business units?
How does the expected portfolio value change?
Which strategic objectives are given greater support?
Which resources become the bottleneck?
Question. Calculate. Compare. Decide.
StratePlan: Turning business unit budgets into a corporate portfolio
StratePlan can analyse projects from different business units within a shared mathematical decision space.
Capital requirements, expected economic contributions, strategic criteria, resources, dependencies and other quantifiable constraints can all be taken into account together.
In doing so, different governance and budget scenarios can be modelled and compared with one another.
For example:
fixed business unit budgets.
partially flexible budgets.
company-wide capital pools.
strategic minimum requirements.
various resource constraints.
The aim is not to strip the business units of their autonomy.
The aim is to highlight which combination of projects generates the greatest portfolio success under the rules defined by management.
Your business units are competing for capital. Do they know the rules?
Perhaps your business units are already competing for capital every day.
It’s just that this competition isn’t called that.
It takes place during budget rounds.
In business cases.
In investment committees.
In prioritisation meetings.
In board meetings.
And in negotiations between business units.
The crucial question is therefore not whether an internal capital market exists.
The crucial question is what rules govern its operation.
Are budgets allocated on a historical basis?
Reduced proportionally?
Allocated according to individual project rankings?
Or are investment opportunities considered across divisions as part of a shared corporate portfolio?
The organisational chart defines responsibilities.
It should not automatically define the optimal capital allocation.
Management defines the rules.
The business units provide the investment opportunities.
Mathematics calculates the portfolio alternatives.
The Executive Board decides where the company’s capital is deployed.
ONE COMPANY. ONE CAPITAL POOL. ONE DECISION LOGIC.
DON’T TRUST US. CALCULATE IT.
