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Chapter 16 Capital Cases The board of education for the Central Casill School District is comidering the soutien of several Case 16-59 minibuses for use in transporting students to school. Five of the school districtes routes are under Decision Probleme populated with the real that the full-size buses on these routes are not fully utilined. Aner careful options: NPV, Mady, the board has decided that it is not feasible to consolidate the routes into fewer routes served by Be Foll-size bunes. The area in which the students live is too late for that approach, since some students IO 16-11-2016 bus ride to school would exceed the state maximum of 45 minutes The plan under consideration by the board is to replace five full-time buses with eight minibuses, each of which would cover much shoner route than a full-size bus. The bus drivers in this rural school district are part-time employees whose compensation couts the school district 18.000 per year for each 512970 driver. In addition to the drivers' compensation, the annual costs of operating and maintaining a full-size Aconcesto bus amount to $50,000. In contrast, the board projects that a minibus will cost only $20.000 annually 50716.000 to operate and maintain. A minibus driver carns the same wages as a full-size bus driver. The school Sa district controller has estimated that it will cost the district $15.250, initially, to redesign its bus routes are purchased inform the public, install caution is in certain hazardous locations, and retain its driver A minibus costs $27.000, whereas a full-size bus costs $20,000. The school district uses straight- line depreciation for all of its loop lived assets. The board has two options regarding the five fullsize bases. First, the buses could be sold now for $15,000 each. Second, the buses could be kept in reserve To use for field trips and out of town athletic events and to use as backup vehicles when buses break down. Currently, the board charters buses from a private company for these purposes. The annual cost of chartering buses amounts to $30,000. The school district controller has estimated that this cost could be cut to $5,000 per year if the five buses were kept in reserve. The five full-size buses have five years of useful life remaining either as regularly scheduled buses or as reserve buses. The useful life of a new minibus is projected to be five years also Central Catskill School District uses a hurdle rate of 12 percent on all capital projects, Required 1. Think about the decision problem faced by the board of education. What are the board's two main alternatives? 2. One of these main alternatives has two options embedded within it. What are those two options? 3. Before proceeding, check the hint given at the end of the chapter, which explains and diagrams the school board's alternatives. Suppose the board of education chooses to buy the minibuses. Prepare a net-present-value analysis of the two options for the five full-size buses. Should these buses be sold now or kept in reserve? 4. From your answer to requirement 3. you know the best option for the board to choose regarding the full-size buses the minibuses are purchased. Now you can ignore the other option. Prepare a net present value analysis of the school board's two main alternativex: (a) continue to use the full- sire buses on regular routes or (b) purchase the minibuses. Should the minibuses be purchased? 5. Compute the internal rate of return on the proposed minibus acquisition 6. What information given in this case was irrelevant to the school board's decision problem? Explain why the information was irrelevant 7. Independent of requirements through 6, suppose the NPV analysis favors keeping the fullsize buses. Michael Jeffries, the business manager for the Central Catskill School District, was pre pared to recommend that the board not purchase the min bed Before doing so, however, Jeffries ran into a long-time friend at the racquet club. Peter Reynolds was the vice president for sales at a local automobile dealership from which the mind would have been purchased, Jeffries broke the bad news about his impending recotnm nabatte manibuses to his friend. The two talked for some time about the pros and cons of the minibus abiertrive. Finally, Reynolds said, "Michael, you and I go back a long time. I know you're not paid all that well at the school district. Our top financial person is retiring next year. Bu like to come to work for the dealership?" "That's pretty tempting, Peter. Let me think it over was Series response "Sure, Michael, take all the time you want. In the nicantime, how about rethinking that minibus decision? It's no big deal to you, and I could sure use the business. "But Peter, I told you what the figures say about that responded Jeffries "Come on, Michael What are friends for Discuss the ethical issues in this situation. What should Michael Jeffries do