Reference no: EM132909723
The company Brandon Company plans to introduce a new line to its product mix, and Sylvia R. Gilbert, an MBA just graduated, carries out the capital budget study. The manufacturing line in the main factory would be installed in vacant space. The invoice price of the machinery would be around $200,000, another $10,000 in transportation costs and an extra $30,000 would be necessary for installation of the equipment. The machinery has a four-year economic life and Brandon has a specific tax regulation which makes the equipment part of the MACRS 3-year class. After four years of usage, the equipment is estimated to recover by $25.000.
The new line would yield an additional sales of 1,250 units per year for four years, minus depreciation, at an increase of $100 per unit per year in the first year. In the first year, each unit may be sold for $200. Inflation is projected to raise both sales and costs by 3% a year. In addition, the net working capital of the company must expand to 12 percent of sales revenues by handling the new line. The company's tax rate is 40%.
1. Specify cash flow.
2. Should the project cash flow be calculated by you to deduct interest expenses or dividends?
3. Assume the company invested $100,000 to refurbish the manufacturing line location last year. Is this part of the analysis required? Explanation. Explanation.
4. Now imagine that the manufacturing space may be rented for $25,000 a year to another company. Is this part of the analysis required? If so, what is that like?
5. Finally, imagine that the sales of existing lines in the company will be reduced by 50 000 $ per year by the new product line. Should it be taken into account in the analysis? If it is the case, how?
6. Disregard the part an assumptions. What is the foundation for this? 6. What are the yearly cost for depreciation?
7. Annual sales and cost calculations 7. (other than depreciation). Why should inflation be included in the cash flow estimate?
8. Build yearly incremental statement on operational cash flow.
9. Estimate net working capital and cash flows necessary for each year as a result of net work capital investments.
10. Calculate the cash flow after tax.
11. Calculate annual net cash flows. What are the MIRR NPV, PI IRR, payback and deferred payback on the basis of these cash flows and the typical project cost of capital? Should the project be implemented, do these signs suggest?
12. In terms of capital budgeting, what is meant by the word "risk;" to what degree can the risk be defined; and, when the risk is measured, does it rely mainly on statistical analysis of historical data or subjective assessment?
13. What are all the three forms of risk important to the budgeting of capital?
14. How and how are each of these risk kinds quantified and related?
15. How is the capital budgeting applied for every kind of risk?
16. What is an examination of sensitivity?
17. Realize a study of the sensitivity for the project unit sales, salvage value and capital costs. Assume that each of the variables may vary by ± 10% - 30% from its base or anticipated value. Enter and discuss the findings using the sensitivity diagram.
18. What is the main sensitivity analysis weakness? How beneficial is it mainly?
19. Assume that the Sylvia R. Gilbert forecasts all factors, other than the unit sales and sales price, affecting the project's cash flows. Sales volume would be only 900 units per year if product acceptability is weak and the price of the unit would only be $; a good customer reaction would lead to 1,600 unit sales with a unit price of $240. Johnson considers that the possibility of bad acceptance is 25%, good acceptance is 25% and a mean acceptability of 50% (the base case).
20. What is the analysis of the scenarios?
21. What's NPV's worst case? The best NPV case?
22. To estimate the project's projected NPV as well as the NPV standard deviation and coefficient of variation, use theworst, basic, and best-case NPVs and probability of occurrence.
23. Do scenario analysis difficulties exist? 23. Define and analyze the main benefits and downsides of simulation analyses.
24. Assume that the average project of the firm has a fluctuation coefficient of between 0.2 and 0.4. Is it high risk, intermediate risk or low risk that the new line is classified? What kind of risk is calculated in this case?
25. Brandon generally add or deduct 3 percentage points to the total risk adjustment cost of capital. Should it accept the new line?
26. Do any subjective risk considerations need to be addressed in advance of the final decision?
27. What is a genuine choice? What kinds of open possibilities are there?