1) Boom Logistics Limited (“Boom”) ordinary shares are listed on the Australian Securities Exchange (ASX). According to the 2020 AGM Chairman’s address, Boom is undergoing a process of asset renewal to concentrate on “improved returns on capital and shareholder returns.” An example of this renewal is Boom’s proposal to replace one of their underutilised cranes with a new Liebherr LR 1300 crawler crane. The new crane has a much larger carrying capacity, offers improved fuel economy and has lower maintenance costs compared to the existing crane. However, the cost of a brand new Liebherr LR 1300 is $3.8 million and Boom’s accountant is concerned that the net profit of the new crane won’t generate a fast enough payback period. The accountant has approached the Chief Financial Officer (CFO) to express concerns. The CFO carefully explains the many reasons that profitability is not a good measure of financial success, and stresses that the appropriate action is to conduct a rigorous cost-benefit analysis to determine if the new crane will deliver the Chairman’s objective of “improved returns on capital”.

2) Earlier this year Boom commissioned an Infrastructure Australia consultant to investigate the outlook for Boom’s lifting services. Boom recently received and paid $240,000 for the study that estimates the substantial number of infrastructure projects planned for the Australia will generate sufficient demand for a larger crane. Today, Boom must decide if they will proceed with the investment in the new crane, and the simultaneous sale of their existing obsolete crane.

3) According to the Australian Taxation Office (ATO) the new crane has a sixteen-year life for taxation purposes.

4) SafeWork NSW requires that all new cranes have an initial and regular major inspection to certify the crane is suitable for its intended use. The compulsory certificate is required today and before Boom commences operations with the new crane. The third-party safety inspection required for certification costs $200,000. The certificate expires four years later at which time the crane must be recertified at a cost of $200,000. Recertification must occur every four years. Any unused certification cannot be reimbursed.

5) Based on Boom’s experience the new crane could easily be operated for twenty years. However, Boom will operate the crane for ten years only. The existing crane can be sold for $950,000 today. If Boom don’t purchase the new crane they will continue to operate the existing crane for a further ten years. The existing crane was purchased seven years ago for $2 million. The annual depreciation expense of $200,000 is based on the ten-year tax life at the time of purchase. The accountant consults Boom’s fixed-asset register to confirm the existing crane is currently carried in the books at $600,000.

6) Some members of the Board suggest that Boom must recover all the costs they have incurred to date. They recommend that one-tenth of the cost of the $240,000 Infrastructure Australia report be allocated as a business expense to each year of the ten-year evaluation period. © University of Technology Sydney 2

7) Boom will borrow $3 million using a secured ten-year interest-only loan at an interest rate of 4% per annum to partly finance the new crane. The loan requires annual interest payments of $120,000 starting in one year’s time. Today, inventory will need to increase by $110,000 to $610,000. Accounts receivable will increase to $750,000 from the current figure of $660,000. Accounts payable will remain at the current level of $330,000 if Boom purchase the new crane.

8) The storage shed that Boom constructed in 2018 at a cost of $675,000 will be retained whether Boom purchases the new crane or not. This storage facility is being depreciated over its 20-year life assuming a salvage value of zero. At the moment Boom is leasing this facility to an unrelated entity for $85,000 p.a. The purchase of the crane will require that Boom use the shed on a full-time basis to store the crane. In this case, Boom must terminate the lease agreement.

9) At the moment, the existing crane generates annual cash sales of $1,600,000. This sales figure is predicted to remain constant for each of the next ten years. The new crane is predicted to generate cash sales in year one of $2.6 million and it is anticipated that this sales forecast will increase by 3% per annum for the foreseeable future. 10) The CFO has gathered some information regarding current and expected operating costs. Currently, fixed costs are $400,000 per annum. Fixed costs would rise to $500,000 in year one with the new crane and then continue to increase by 2% p.a. Wages expense is currently $900,000 each year and is predicted to increase to $1.3 million with the introduction of the new crane.

11) The improved fuel economy of the new crane will allow Boom to reduce its current annual fuel expenditure by $60,000 compared to the existing crane. The existing crane was relatively fuel inefficient and used, on average, 290,000 litres of diesel fuel each year. The CFO assumes the cost of diesel fuel remains constant for the next ten years at $1.40 per litre.

12) The annual maintenance cost of the existing crane is $63,000. The new crane will require no maintenance in the first two years of its life because it is covered by a manufacturer’s two-year warranty. However, after the warranty expires the annual maintenance expense will be $87,000 starting in year 3.

13) Boom deferred the payment of the total $2.1 million dividend to shareholders from April to October this year as a cash-conservation measure. Next year’s total dividend is expected to be a similar amount as this year.

14) It costs $175,000 a year to operate Boom’s Perth headquarters. With careful management Boom believes they will not require any additional personnel in headquarters if they purchase the new crane. In any case, the annual headquarters’ operating expense will increase by 3% p.a.

15) The ATO classifies the safety certificate that is required for the SafeWork NSW inspection as a business expense. The accountant affirms that any expenses incurred in generating sales for Boom are tax deductible in the year the expense is incurred.

16) Boom estimates that the new crane will have a market value of $1.1 million in ten years’ time. The existing crane can be sold for $950,000 today and Boom will use the sale proceeds to reduce its bank debt by $950,000 today. Boom assumes the existing crane would be worthless in ten years’ time. 17) The company tax rate is 30% and Boom’s required rate of return is 10%.

REQUIREMENTS:Your team must answer the following questions. Questions 1 to 4 require information relating to the capital budgeting decision of the new crane. The remaining questions require you to provide some explanations and perform an equity valuation. All answers must be entered into the preformatted EXCEL spreadsheet.

Capital Budgeting Information (15 Marks) Present an itemised breakdown (and the total) for each of the following:

1. The cash flows at the start.

2. The cash flows over the life.

3. The cash flows at the end.

4. The NPV of the new crane and an explanation of your recommendation. Financial Information (5 Marks)

5. Page 1 of Boom’s 2020 Annual Report refers to the reduction in Net Debt as one of their “2020 Highlights”. How did Boom achieve this reduction in debt? (1 mark)

6. Why do companies (such as Boom) typically highlight their amount of net debt rather than total debt? (1 mark)

7. Visit the ASX website to find the dividend Boom paid in 2020. Assume Boom will pay the same 2020 annual dividend amount in 2021, 2022, 2023 and 2024. The annual dividend in 2025 is predicted to be 50% higher than 2024’s annual dividend and is then forecast to increase at an annual rate of 5%. If Boom’s required return is 10%, what is a fair value for one Boom share in 2021, just after the 2021 dividend is paid.