Reference no: EM133559994

Cost-Benefit Analvsis

Parts A and B Due Sunday, Midnight of Week 9 (25% of Final Grade)

Overview

Please take on the role of a senior member of the finance team assigned to lead the investment committee of a pollution control equipment manufacturer. Your team is evaluating a "make-versus-buy" decision that has the potential to improve the company's competitiveness, but which requires a significant capital investment in new equipment. The assignment is organized into two parts:

Part A: Data calculations based on the information in the scenarios

Part B: Recommendations based on the calculations

Opportunit Details

The new equipment would allow our company to manufacture a critical component in house instead of buying it from a supplier. This capability would help you stabilize your supply chain, which has suffered from some irregularities and quality issues in the past. It could also positively impact profitability through the absorption of fixed costs since this new machine will have plenty of excess capacity. There may even be a possibility that the company could leverage this capability to create a new external revenue stream by providing services to other companies.

The company has been growing steadily over the past 5 years, and the financials and prospects look good.

Your CEO has asked you to run the numbers. After doing some digging into the business, you have gathered information on the following:

The estimated purchase price for the equipment required to move the operation in-house would be $950,000. Additional net working capital to support production (in the form of cash used in Inventory, AR net of AP) would be needed in the amount of $42,000 per ear starting in vear 0 and through all vears of the proiect to support production as raw materials will be required in vear 0 and all ears to run the new equipment and produce components to replace those purchased from the vendor.

The current spending on this component (i.e., annual spend pool) is $1,800,000. The estimated cash flow savings of bringing the process in-house is 18% or annual savings of $324.000. This includes the additional labor and overhead costs required.
Finally, the equipment required is anticipated to have a somewhat short useful life, as a new wave of technology is on the horizon. Therefore, it is anticipated that the equipment will be sold after the end of the project (the last year of generated cash flow) for $60,000. (ie., the terminal value).