Capital Budgeting: Estimating Cash Flows and Analyzing Risk

Aggie Webservices Inc. has developed a powerful new server that would be used for corporations Internet activities. It would cost $7.5 million at Year 0 to buy the equipment necessary to manufacture the server. The project would require net working capital at the beginning of each year in an amount equal to 10% of the year's projected sales; for example, NWC0 = 10%(Sales1). The firm believes it could sell 725 units per year. The servers would sell for $25,000 per unit, and Webmasters believes that variable costs would amount to $18,000 per unit. After Year 1, the sales price and variable costs will increase at the inflation rate of 4.2%. The companys non variable costs would be $1 million at Year 1 and also would increase at the 4.2% inflation rate. The server project would have a life of 4 years. If the project is undertaken, it must be continued for the entire 4 years. The equipment would be depreciated over a 5-year period, using MACRS rates. The estimated market value of the equipment at the end of the projects 4-year life is $499,000. The company's federal-plus-state tax rate is 25%. Its cost of capital is 10% for average-risk projects, defined as projects with a coefficient of variation of NPV between 0.8 and 1.2. Low-risk projects are evaluated with a WACC of 8%, and high-risk projects at 13%. The project's returns are expected to be highly correlated with returns on the firm's other assets.

****Develop a spreadsheet model, and use it to find the projects, NPV, IRR, MIRR, Payback, and Discounted Payback.****

C D E F G H H Key Results: NPV - IRR - MIRR Payback Discounted Payback A B 23 24 Input Data (in thousands of dollars) 25 Equipment cost 26 Net operating working capital/Sales 27 First year sales (in units) 28 Sales price per unit 29 Variable cost per unit (excl. depr.) 30 Nonvariable costs (excl. depr.) 31 Inflation in prices and costs 32 Estimated salvage value at year 4 33 Depreciation years 34 Depreciation rates 35 Tax rate 36 WACC for average-risk projects 37 38 Intermediate Calculations 39 Units sold 40 Sales price per unit (excl. depr.) 41 Variable costs per unit (excl. depr.) 42 Nonvariable costs (excl. depr.) 43 Sales revenue Year 1 Year 2 Year 3 32.00% Year 4 19.20% 20.00% 11.52% 0 1 2 3 4 44 Required level o Delete Cells ng capital Years 2 0 0 1 1 3 4 46 Annual equipment depr. rate 47 Annual depreciation expense 48 Ending Bk Val: Cost - Accum Dep'rn 49 Salvage value 50 Profit (or loss) on salvage 51 Tax on profit (or loss) 52 Net cash flow due to salvage 53 54 Cash Flow Forecast 55 Sales revenue 56 Variable costs 57 Nonvariable operating costs 58 Depreciation (equipment) 59 Oper. income before taxes (EBIT) 60 Taxes on operating income (40%) 61 Net operating profit after taxes 62 Add back depreciation 63 Equipment purchases 64 Cash flow due to change in NOWC 65 Net cash flow due to salvage 66 Net Cash Flow (Time line of cash flows) 67 68 Key Results: Appraisal of the Proposed Project 69 70 Net Present Value (at 10%) = 71 IRR = 72 MIRR = 73 Payback 74 Discounted Payback = 75 Data for Payback Years 76 77 Net cash flow 78 Cumulative CF 79 Part of year required for payback 80 81 82 Data for Discounted Payback Years 83 84 Net cash flow 85 Discounted cash flow 86 Cumulative CF 87 Part of year required for discounted payback 88 Years 2 0 1 3 4 Years 2 0 1 3 C D E F G H H Key Results: NPV - IRR - MIRR Payback Discounted Payback A B 23 24 Input Data (in thousands of dollars) 25 Equipment cost 26 Net operating working capital/Sales 27 First year sales (in units) 28 Sales price per unit 29 Variable cost per unit (excl. depr.) 30 Nonvariable costs (excl. depr.) 31 Inflation in prices and costs 32 Estimated salvage value at year 4 33 Depreciation years 34 Depreciation rates 35 Tax rate 36 WACC for average-risk projects 37 38 Intermediate Calculations 39 Units sold 40 Sales price per unit (excl. depr.) 41 Variable costs per unit (excl. depr.) 42 Nonvariable costs (excl. depr.) 43 Sales revenue Year 1 Year 2 Year 3 32.00% Year 4 19.20% 20.00% 11.52% 0 1 2 3 4 44 Required level o Delete Cells ng capital Years 2 0 0 1 1 3 4 46 Annual equipment depr. rate 47 Annual depreciation expense 48 Ending Bk Val: Cost - Accum Dep'rn 49 Salvage value 50 Profit (or loss) on salvage 51 Tax on profit (or loss) 52 Net cash flow due to salvage 53 54 Cash Flow Forecast 55 Sales revenue 56 Variable costs 57 Nonvariable operating costs 58 Depreciation (equipment) 59 Oper. income before taxes (EBIT) 60 Taxes on operating income (40%) 61 Net operating profit after taxes 62 Add back depreciation 63 Equipment purchases 64 Cash flow due to change in NOWC 65 Net cash flow due to salvage 66 Net Cash Flow (Time line of cash flows) 67 68 Key Results: Appraisal of the Proposed Project 69 70 Net Present Value (at 10%) = 71 IRR = 72 MIRR = 73 Payback 74 Discounted Payback = 75 Data for Payback Years 76 77 Net cash flow 78 Cumulative CF 79 Part of year required for payback 80 81 82 Data for Discounted Payback Years 83 84 Net cash flow 85 Discounted cash flow 86 Cumulative CF 87 Part of year required for discounted payback 88 Years 2 0 1 3 4 Years 2 0 1 3