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Case 14_Capital Budgeting_Final__Solution_a_

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Case 14_Capital Budgeting_Final__Solution_a_ Powered By Docstoc
					                              Solution to Case # 14

CF for replacement project

Initial Price of new machine   $     350,000                 Market Value at the end of the economic life
Shipping+ etc                  $       4,500                 New Machine
Acqusition cost on new machine $     354,500                 Old Machine
Annual FO Costs - new          $      20,000                 Current Market Value of old Machine
Current FO Costs - old         $      28,000                 Current Book Value of old Machine

Increase Sales                                               Loss on Sale of old Machine (Now)
1st year                                 15%                 Tax Effect ( Inflow or Tax Shield)
Thereafter                                5%                 Net gain on Sale of old machine
Forecasted old                            2%                 Gain on Sale of new Machine
Recent Sales Units                   220,000                 at the end of economic life
Recent Sale Price             $        12.50                 Tax Effect ( Outflow)
New Sale Price                $        13.00 (4% increase)   Net Gain On Sale on new Machine
Fixed costs per unit          $        10.00                 Change (Increase) in NWC

Increase in AccR                      54,000                 Opportunity Cost of Selling old machine
Increase in AccP                      30,000                 Gain on old Machine (net of taxes)
Increase in Inventory                 20,000
Life of the new machine                   10
Price of old machine
acquired (5 years ago)               225,000
Current Market Price of old
machine                              100,000
Market Price of old machine
at the end                            10,000
Depreciation life of old
machine                                    15
Market value of new machine
at the end                    $       20,000
Tax Rate                                 34%
WACC                                     15%
Interest expense                         10%
$    20,000
$    10,000
$   100,000
$   150,000

$   -50,000
$    17,000
$   117,000

$    20,000
$     6,800
$    13,200
$ 44,000.00

$ 10,000.00
$     6,600
Sales Growth
                 Year                            1             2           3           4           5
Projected        Old Sales          $   2,805,000 $   2,861,100 $ 2,918,322 $ 2,976,688 $ 3,036,222
Projected        New Sales          $   3,289,000 $   3,453,450 $ 3,626,123 $ 3,807,429 $ 3,997,800
Change in Sales Revenue             $     484,000 $     592,350 $ 707,801 $     830,740 $ 961,578

Material, labor, general and administrative costs (assume that these costs are increasing with the increase of sales)
                  Year                        1                2            3              4            5
Projected         Old Costs      $ 2,244,000 $        2,288,880 $ 2,334,658 $ 2,381,351 $ 2,428,978
Projected         New Costs      $ 2,530,000 $        2,656,500 $ 2,789,325 $ 2,928,791 $ 3,075,231
Change in Costs                  $     286,000 $        367,620 $ 454,667 $         547,440 $ 646,253

Annual fixed operating costs per machine
                 Old Costs       $    28,000 $           28,000 $     28,000 $       28,000 $     28,000
                 New Costs       $    20,000 $           20,000 $     20,000 $       20,000 $     20,000
Change in Costs                  $     -8,000 $          -8,000 $     -8,000 $       -8,000 $     -8,000

Change in expenses                  $    278,000 $      359,620   $   446,667 $    539,440   $   638,253

Depreciation schemes compared
                Year                            1              2            3              4            5
                Old Machine    $          15,000 $       15,000 $     15,000 $       15,000 $     15,000
                New Machine    $          70,900 $      113,440 $     68,064 $       40,768 $     40,768
                Change in depr $          55,900 $       98,440 $     53,064 $       25,768 $     25,768

NWC                        44000 $ 96,800.00     $      118,470   $   141,560 $    166,148   $   192,316
Change in NWC              44000 $          -    $            -   $         - $          -   $         -


Note: NWC = 20% of incremental revenues

Year                MACRS for 5yr
                1          20.0%
                2          32.0%
                3          19.2%
                4          11.5%
                5          11.5%
                6           5.8%
                        6           7           8           9              10          11          12
             $ 3,096,947 $ 3,158,886 $ 3,222,063 $ 3,286,505 $     3,352,235 $ 3,419,279 $ 3,487,665
             $ 4,197,690 $ 4,407,575 $ 4,627,953 $ 4,859,351 $     5,102,319 $ 5,357,434 $ 5,625,306
             $ 1,100,743 $ 1,248,689 $ 1,405,890 $ 1,572,846 $     1,750,084 $ 1,938,155 $ 2,137,641

h the increase of sales)
                        6           7           8           9              10          11          12
             $ 2,477,557 $ 2,527,108 $ 2,577,651 $ 2,629,204 $     2,681,788 $ 2,735,423 $ 2,790,132
             $ 3,228,992 $ 3,390,442 $ 3,559,964 $ 3,737,962 $     3,924,860 $ 4,121,103 $ 4,327,159
             $ 751,435 $ 863,334 $ 982,313 $ 1,108,759 $           1,243,073 $ 1,385,680 $ 1,537,027


             $    28,000 $   28,000 $     28,000 $    28,000 $       28,000 $           - $           -
             $    20,000 $   20,000 $     20,000 $    20,000 $       20,000 $      20,000 $      20,000
             $    -8,000 $   -8,000 $     -8,000 $    -8,000 $       -8,000 $      20,000 $      20,000

             $   743,435 $   855,334 $   974,313 $ 1,100,759   $   1,235,073   $ 1,405,680   $ 1,557,027


                       6            7           8           9              10           11            12
             $    15,000 $    15,000 $    15,000 $    15,000 $        15,000 $           - $           -
             $    20,561 $         - $         - $         - $              - $          - $           -
             $     5,561 $   -15,000 $   -15,000 $   -15,000 $       -15,000 $           - $           -

             $   220,149 $   249,738 $   281,178 $   314,569 $             - $    387,631 $     427,528
             $         - $         - $         - $         - $       -44,000
          13          14          15
$ 3,557,418 $ 3,628,567 $ 3,701,138
$ 5,906,571 $ 6,201,900 $ 6,511,995
$ 2,349,153 $ 2,573,333 $ 2,810,857


          13          14          15
$ 2,845,935 $ 2,902,853 $ 2,960,910
$ 4,543,517 $ 4,770,692 $ 5,009,227
$ 1,697,582 $ 1,867,839 $ 2,048,317


$        - $          - $          -
$   20,000 $     20,000 $     20,000
$   20,000 $     20,000 $     20,000

$ 1,717,582 $ 1,887,839   $ 2,068,317


        13           14            15 Total Check
$        - $          - $           - $ 150,000
$        - $          - $           - $ 354,500
$        - $          - $           -

$   469,831 $   514,667 $    562,171
                        $    -44,000
Tax                                                        34%
Year                                                         0               1            2            3            4            5
Change in Sales Revenue                                          $ 484,000.00 $ 592,350.00 $ 707,800.50 $ 830,740.19 $ 961,577.85
Change in expenses                                               $ 278,000.00 $ 359,620.00 $ 446,667.40 $ 539,440.50 $ 638,253.05
Change in depr                                                   $ 55,900.00 $ 98,440.00 $ 53,064.00 $ 25,767.50 $ 25,767.50
NWC requirement (20% of incremental sales)
NWC                                            $    -44,000.00 $        -       $          -   $         -     $        -     $        -
Acqusition cost on new machine                 $   -354,500.00
Net gain on Sale of old machine                $    117,000.00
Initial cash outflow/cash inflows              $   -281,500.00 $ 154,966.00     $ 187,071.40   $ 190,389.61    $ 201,018.74   $ 222,155.32

Opportunity Cost of Selling Old Machine
Net Gain On Sale on new Machine
NWC Accumulated until year 10

Cash Flows for the 10 Years case               $   -281,500.00 $ 154,966.00     $ 187,071.40   $ 190,389.61    $ 201,018.74   $ 222,155.32

NPV                                                $817,560.28 (with nominal discount rate)
IRR                                                     64.85%

Cash Flows for the 10 Years case (Inflation)
                                               $   -281,500.00 $ 135,960.00     $ 153,601.80   $ 172,347.85    $ 192,257.79   $ 213,394.37
Opportunity Cost of Selling Old Machine
Net Gain On Sale on new Machine
NWC Accumulated until year 10
Cash Flows Without Depreciation                $   -281,500.00 $ 135,960.00     $ 153,601.80   $ 172,347.85    $ 192,257.79   $ 213,394.37
Discounted at Real Rate
Inflation adjusted rate of 3%                           11.65%
=((1,15/1,03)-1)=11,6504854%

NPV of Cash Flows Without Depreciation         $    939,048.87 (with real discount rate)


Depreciation (Tax Shield)                                       $ 19,006.00 $ 33,469.60        $   18,041.76   $   8,760.95   $   8,760.95
NPV ( Discount Rate 15% )                      $     57,584.94 (with nominal discount rate)

Total NPV for Inflation Adjusted Cash Flows    $    996,633.81

                                               $   -281,500.00 $ 154,966.00     $ 187,071.40   $ 190,389.61    $ 201,018.74   $ 222,155.32
Opportunity Cost of Selling Old Machine
Net Gain On Sale on new Machine
NWC Accumulated until year 10

Cash Flows for the 15 Years case   $   -281,500.00 $ 154,966.00   $ 187,071.40   $ 190,389.61   $ 201,018.74   $ 222,155.32

NPV                                $ 1,149,529.22
IRR                                        65.52%
              6              7              8              9             10             11             12             13
$ 1,100,743.41 $ 1,248,688.98 $ 1,405,889.99 $ 1,572,846.39 $ 1,750,083.85 $ 1,938,155.08 $ 2,137,641.21 $ 2,349,153.22
$ 743,435.03 $ 855,333.50 $ 974,313.43 $ 1,100,758.62 $ 1,235,072.66 $ 1,405,679.93 $ 1,557,026.63 $ 1,717,581.92
$     5,561.00 $   -15,000.00 $   -15,000.00 $   -15,000.00 $   -15,000.00 $          -    $         -    $         -

$          -     $          -     $          -     $          -     $   -44,000.00   $          -     $          -     $          -


$   237,714.27   $   254,514.61   $   279,740.53   $   306,477.93   $   378,807.38   $   351,433.60   $   383,205.63   $   416,837.06

                                                                    $    -6,600.00
                                                                    $    13,200.00

                                                                    $   378,807.38
$   237,714.27   $   254,514.61   $   279,740.53   $   306,477.93   $   385,407.38




$   235,823.53   $   259,614.61   $   284,840.53   $   311,577.93   $   383,907.38
                                                                    $     6,600.00
                                                                    $    13,200.00

$   235,823.53   $   259,614.61   $   284,840.53   $   311,577.93   $   390,507.38




$     1,890.74 $      -5,100.00 $      -5,100.00 $      -5,100.00 $      -5,100.00




$   237,714.27   $   254,514.61   $   279,740.53   $   306,477.93   $   334,807.38   $   351,433.60   $   383,205.63   $   416,837.06
                                                                    $     6,600.00
$   237,714.27   $   254,514.61   $   279,740.53   $   306,477.93   $   328,207.38   $   351,433.60   $   383,205.63   $   416,837.06
             14             15
$ 2,573,333.43 $ 2,810,857.10
$ 1,887,839.05 $ 2,068,316.60
$          -    $         -

$          -     $   -44,000.00


$   452,426.29   $   534,076.73




$   452,426.29   $   534,076.73
                 $    13,200.00


$   452,426.29   $   547,276.73
         CF Analysis

CF0                             $ -281,500
CF1                             $ 154,966
CF2                             $ 187,071
CF3                             $ 190,390
CF4                             $ 201,019
CF5                             $ 222,155
CF6                             $ 237,714
CF7                             $ 254,515
CF8                             $ 279,741
CF9                             $ 306,478
CF10                            $ 385,407
PV of cash flows 1 through 10
                                $ 1,280,991 $ 1,099,060.28
NPV of project                  $ 999,491 $ 817,560.28 (with nominal discount rate)
IRR of the project                   64.85%



Inflation adjusted rate of 3%       11.65% (real discount rate)

				
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