Introduction In November, 2018, Container Corporation was examining the following two capital budgeting investment proposals for the forthcoming year: Proposal #1 replace a packaging machine that was causing considerable problems on Proposal #2-install a series of machines that would greatly improve the process of the assembly line plastic-film-bubble packaging. This is an area that is expanding rapidly and one in which the firm has not yet participated to any extent. Company Background The company started in the late 1940s by purchasing surplus government cartons and resellin them to the business community in the San Francisco area, and within a few years, it became a major distributor and supplier of corrugated cartons, paper boxes, paper, and miscellaneous supply items. As it grew, equipment for cutting, wrapping, and processing paper and boxes was purchased and the company became a manufacturer of corrugated cartons, which formerly were purchase and then redistributed. In 1960, plastics began to substitute for paper bags and cartons. The company entered this new area by selling plastic film and bags as well as the machines for packaging items into plastic bags and film. It further expanded by putting a plastic coating onto the paper boards and then die- cutting them to various sizes and shapes. Added to these activities was the selling of printing equipment, cameras and plates for the printing, and additional die-cutting and coating items. Showrooms were added to exhibit the various types of machinery available to manufacturers who wished to display their products in clear packages. Thus, the company today is a supplier both of machinery and supplies to those manufacturers who want to package their own merchandise and of packages for manufacturers who prefer to outsource this part of their production process. Investment Details Proposal #1 The first investment alternative to consider is the replacement of the packaging machine. machine currently being used was purchased 5 years earlier for $30,000. At that time, the firm decided to depreciate the machine on a straight-line basis over 15 years, thus generating $2 in depreciation expense each year. At the end of its 15-year life, there is no anticipated salvag value. In other words. At that time, the old machine is expected to be worthless. At the present time, the old machine is contributing $17,500 annually to revenues while the operating expenses have been running $10,000 per year. It can be sold today for $7,500. $2,000 If a new replacement machine were purchased now, it would cost the company $35,000 new machine would have a useful life of 10 years. At the end of its 10-year life, it could for $7,500. The depreciation method would be MACRS 7-year. It is estimated that t machine would contribute $25,000 to revenues each year, with annual operating costs of $8.0n For the investment analysis, a 40% tax rate would be appropriate. he new Proposal #2 The second investment alternative is a series of machines that would greatly enhance the firm's ability to enter the bubble packaging business. The total cost of this investment package would be $1 million. The machines would have a useful life of 10 years and would be depreciated using MACRS 7-year. It is anticipated that the new machines will generate annual sales (revenue) increases as shown in Exhibit I below. The machines would require a net working capital investment of $62,500. At the end of their useful life, the machines are expected to be worthless and will generate no salvage value. As with the other investment opportunity, the appropriate tax rate is 40% Company Balance Sheet and Capital The following is the current balance sheet for Container Corporation. All amounts are in millions of dollars. The current capital structure is to be maintained Cash Accounts receivable 20 Accruals Inventories s10 Accounts payable S10 10 20 Short-term debt Current assets 50 Current liabilities 25 Gross fixed assets 120 Long-term debt (bonds) 4 Accum depreciation 50 70 Preferred stock Common stock Paid-in capital Retained earnings Net fixed assets 28 50 120 Total assets 2 Total liab& equity The following information has been gathered regarding Container Corporation's capital. 1 The firm has outstanding an issue of g%, semiannual coupon. noncallable bonds with 18 years to maturity. New bonds with these characteristic could be sold fora price of $1,185. The bonds will have a par value of $1,000. Flotation costs on new bonds are expected to be 5%. 2 Container Corporation has no preferred stock. There are no plans to issue preferred stock in the foreseeable future. The firm's common stock is currently selling at $125 per share. The last dividend paid was Do S3.25. Dividends are paid semiannually and investors expect the dividend to grow at a constant 5% annual rate into the foreseeable future. Any new common stock issued would involve flotation costs of $3.00 per share 3. Assignment The president wants your recommendation about whether Container Corporation should invest in one or both of the projects. She also wants a thorough explanation of your recommendations All worksheets and recommendations/explanations must be typed. As part of your recommendation, answer the following questions: Are the two capital budgeting investment proposals independent or mutually exclusive? Why? Depending upon your answer to question #1, which proposal or proposals should be accepted? Why? To support your answers to the questions above, the president of Container Corporation has assigned you to provide her with the following: 1. a worksheet showing calculation of the company's weighted average cost of 2. a worksheet showing initial, operating, and terminal cash flows for the 3. a worksheet showing the net present value and internal rate of return for the 4. a worksheet showing initial, operating, and terminal cash flows for the new 5. a worksheet showing the net present value and internal rate of return for the new capital (WACC) replacement project analysis (proposal #1); replacement project analysis (proposal #1); project analysis (proposal #2); and project analysis (proposal #2). Exhibit 1. Year Forecast Sales 500,000 10 MACRS ow nership year Class of Investment 3-year S-ear 7-year 14% 33% 45 15 10-year 10% 18 14 12 20% 10