How Do Firms Actually Use Hurdle Rates?

Based on research by John Barry (Rice Business), Bruce Carlin (Rice Business), Alan Crane (Rice Business), and John Graham (Duke)

Key findings:

• A hurdle rate is the minimum return a project or deal must clear to receive approval.
• In finance classrooms, hurdle rates are typically taught as a decision-making tool.
• But in practice, firms use them strategically to shape negotiations during project development.

If you’ve taken a corporate finance class, you’re familiar with the logic behind investment decisions: a project creates value only if it earns more than the firm’s cost of capital.

To put that logic into practice, firms rely on a “hurdle rate” — the minimum return a project must clear to receive approval. If a firm’s hurdle rate is set at 15%, for example, a proposed investment expected to earn 14% may be rejected outright during evaluation.

According to new research, however, firms rarely use hurdle rates as neutral tools for making investment decisions. Rather, these rates are often set well above the cost of capital and play a more active role in how deals are negotiated, shaped and ultimately approved. 

A forthcoming article, co-authored by Rice Business professors John Barry, Bruce Carlin and Alan Crane, along with Duke professor John Graham, draws a sharp distinction between project evaluation and project development — a separation that rarely appears in finance models. 

In the finance classroom, costs and returns are often treated as fixed inputs, and the hurdle rate is used to evaluate whether a project is in or out. In practice, however, many investments take shape through negotiation. Prices, terms and even project scope are often still in flux as managers work with suppliers, customers or acquisition targets. In that setting, the hurdle rate is no longer just a screening threshold; it becomes a constraint that shapes the bargaining process.

“The hurdle rate becomes a line in the sand,” Barry says. “Managers can point to it and say, ‘If we can’t clear this, we can’t do the project.’”

Consider a firm developing a new production facility. In a textbook capital budgeting exercise, land, materials and construction are treated as fixed costs, and managers use a hurdle rate to evaluate whether the expected cash flows can justify them. In practice, however, those costs are not a given — they’re negotiated. When managers approach suppliers and landowners with a firm-wide hurdle rate in hand, the return threshold becomes a hard constraint; unless prices fall or terms improve, the project will not move forward. The hurdle rate, in other words, shapes the negotiation long before any spreadsheet delivers a final yes or no. 

To test this idea systematically, the researchers draw on multiple sources of evidence. Using surveys of CFOs, investment outcomes, and merger data, they show that elevated hurdle rates are not simply a conservative bias or a deviation from textbook finance. Instead, high hurdle rates function as an internal commitment, shaping how firms negotiate with suppliers, partners and acquisition targets and often improving the firm’s share of value in the deals it pursues.

Taken together, the approach allows the researchers to connect what firms say about their investment rules, how managers act on those rules inside the firm, and what outcomes materialize in negotiation. “The hurdle rate becomes a line in the sand,” Barry says. “Managers can point to it and say, ‘If we can’t clear this, we can’t do the project.’”

While much of the academic literature treats elevated hurdle rates as a distortion to be explained, this study, forthcoming in the Journal of Financial Economics, focuses on how they function as a strategic commitment with real consequences for bargaining. 

“What we teach in finance classes is really only step one,” says Barry. “The next step in being a great finance practitioner is thinking beyond the spreadsheet — not that the models we teach are wrong, but rather how the assumptions and methods we use shape decisions and incentives both within and outside the organization.”

For students, the lesson is not to abandon the textbook framework, but to recognize that it is not rigid. Understanding how these analytical tools operate within organizations — and how they guide choices long before a deal is ever signed — is part of what turns financial analysis into effective managerial practice.

Written by Scott Pett

Barry, Carlin, Crane, and Graham (2026). “Hurdle Rate Buffers and Bargaining Power in Asset Acquisition,” forthcoming in the Journal of Financial Economics.