IMA The Association of EDUCATIONAL Case Accountants and Case Journal Study ima Financial Professionals in Business ISSN 1940-204X Peregrine: The CNC Machine Decision Tony Bell Dr. Andrew Fergus Thompson Rivers University Thompson Rivers University INTRODUCTION was ready for retirement; Peregrine had fit the bill. Founded in 1977, Peregrine had been operated profitably for 35 years It was another sleepless night for Brian French. As a new in downtown Vancouver, British Columbia, Canada. In father, French had grown accustomed to sleep deprivation, Peregrine, the investors would be acquiring a company with a but on this night, it was his business-not his newborn history of success and an experienced team that had expertise daughter-that had him tossing and turning. French was in manufacturing a wide array of custom plastic products. the president and co-owner of Peregrine, a Vancouver- When Peregrine was acquired in 2012, it had employed based manufacturer of custom retail displays that were used 6 people and had $600,000 in sales. Under French's in stores, banks, and art galleries (Exhibit 1). Peregrine management, the company had grown to more than 30 had been working on a display for Best Buy when one of employees and more than $6 million in sales by 2016. the company's two computer-numerical-control (CNC) machines broke down (Exhibit 2). When the machine went THE CNC MACHINE DECISION down, French watched progress on the Best Buy job slow to a halt. Although French had been assured that the CNC When the CNC machine broke down, it was a wake-up call machine would be back up and running within 24 hours, the for French. The production line was dependent on both breakdown revealed a deeper problem: the CNC machines CNC machines working full time-if they slowed down or represented a major bottleneck for Peregrine, and if this needed repair, the business suffered. French believed the machine was down for more than the promised 24-hour key to relieving this bottleneck would be increasing capacity. period, the Best Buy job could not be completed on time, It not only would prevent downtime but also would allow and workers would need to be sent home. French was the company to take on new business. If capacity increased, frustrated by this predicament and was determined to make French estimated that sales revenues would rise by at least the changes necessary to ensure it would not happen again. $50,000 per month due to unmet demand and increased efficiency. The company's margins on the additional PEREGRINE revenues were expected to be 35%. French saw three viable options to increase capacity: In 2012, French left PricewaterhouseCoopers to purchase Peregrine along with two co-investors. The investment 1. Purchase an additional CNC machine for cash, team had been looking for an opportunity to purchase a 2. Finance the purchase of an additional CNC machine, or company with a successful track record and a founder who 3. Add a third shift (a night shift) to better utilize the two CNC machines Peregrine already owned. IMA EDUCATIONAL CASE JOURNAL 1 VOL. 10, NO. 3, ART. 1, SEPTEMBER 2017 O2017 IMA French considered the details of each option, keeping in purchased. Based on his trucking experience, French knew mind that for long-term projects he would use a discount rate this option would be difficult to execute, as there were major of 7%. safety and supervision challenges associated with running a night shift. OPTION 1: PURCHASE A NEW CNC MACHINE WITH CASH Although it would be costly, the idea of adding a third CNC MOVING FORWARD machine appealed to French. It would provide him peace of mind that if there were a breakdown, jobs would continue French wanted to get moving on a solution and arranged on schedule. French's preliminary research revealed that a conference call with his two co-owners. He knew his co- the cost of the new equipment would be $142,000. He also owners would be eager to learn the numbers behind each estimated that there would be increased out-of-pocket option, but he also knew that nonfinancial information would operating costs of $10,000 per month if a new machine were be just as crucial in making a recommendation. Before the brought online. After five years, the machine would have a call, French sat down at his desk to fully analyze the options. salvage value of $40,000. Although Peregrine did not have the cash readily available to make the purchase, French ASSIGNMENT QUESTIONS believed that with a small amount of cash budgeting and planning, this option would be feasible. 1. Without using any numbers, identify the strengths and weaknesses of the three options identified by French. OPTION 2: FINANCE THE PURCHASE OF A NEW CNC MACHINE Are there any other options French should consider? The company selling the CNC machine also offered a 2. Compute and compare the net present value and payback leasing option. The terms of the lease included a down period of each option. payment of $50,000 and monthly payments of $2,200 for five Make a recommendation for French. years. After five years, the equipment could be purchased Rounding to the nearest 1%, at what discount rate does for $1. The operating costs and salvage values would be the leasing produce a higher net present value than paying same as option 1, the purchasing option. The company had cash? the necessary cash on hand to make the down payment for the lease. With both the leasing and purchasing options, the company had sufficient space to operate the new ABOUT IMA" (INSTITUTE OF MANAGEMENT ACCOUNTANTS) equipment, and French believed he had almost all of the IMA", the association of accountants and financial professionals right employees in place to execute this plan. in business, is one of the largest and most respected associations