capital Budgeting Decision Exercise

Capital Budgeting Decisions Exercise Instructor: Dr. Lou FINC 3310 - FALL 2019 Learning Objectives 1. Understand how to use Excel spreadsheet (a) Develop proforma Project Income Statement Using Excel Spreadsheet (b) Compute Net Project Cash flows, NPV, IRR and PayBack Period (c) Develop Problem-Solving and Critical Thinking Skills 1) Life Period of the Equipment =4 years 2) New equipment cost 3) Equipment ship & install cost 4) Related start up cost 5) Equip. Salvage Value 6) Sales for first year (1) 7) Sales increase per year 5% -200,000 8) Operating cost: -35,000 -5,000 9) Depreciation (Straight Line)/YR 15,000 10) Corporate Marginal Tax Rate 200,000 11) Cost of Capital (WACC) -120,000 (60 Percent of Sales) -60% -60,000 21% 10% ESTIMATING Initial Outlay (Cash Flow, CFo, T= 0) CFO CF1 CF2 CF4 Year Investments: 1) Equipment cost 2) Shipping and Install cost 3) Start up expenses Total Basis Cost (1+2+3) -240.000 -240,000 Total Initial Outlay Operations: Revenue Operating Cost Depreciation EBIT 210,000 -126,000 200,000 220,500 -132.300 231,525 -120.000 -138,915 -60,000 20.000 es -4,200 Net Income 15,800 Add back Depreciation 60,000 Total Operating Cash Flow 75,800 XXXXX XXXXX XXXXX Terminal: 1) Salvage value (after tax) Total 11,850 Salvage Value Before Tax (1-T) 11,850 -240,000 Project Net Cash 75,800 11,850 Flows NPV = ($162,997) IRR = 42.5% Payback CF1 Ts nmerical example I did -100 150 hat so called Excel NPV computes PV, which can be v Textbook spreadsheet examp edition) also points out this e needs to fx ASAP. Read the Q#1 Would you accept the project based on NPV, IRR? Would you accept the project based on Payback rule if project cut-off is 3 years? 36 33 Q#2 How would you explain to your CEO what NPV means? Q#3 What are advantages and disadvantages of using only Payback method? Q#4 What are advantages and disadvantages of using NPV versus IRR? Q#5 Explain the difference between independent projects and mutually exclusive projects. 33 When you are confronted with Mutually Exclusive Projects and have coflicts with NPV and IRR results, which criterion would you use (NPV or IRR) and why