Purpose: Evaluate and balance uncertainty when performing analysis for capital rationing decisions

KSAs: Understand capital investment analysis (NPV, IRR, etc.); apply uncertainty to analyses for capital rationing decisions

Points: 20

Admin: None

Discussion Initial Response Due by Wednesday: COVID-19 brought tremendous change to the world from health, relationship, and economic perspectives. For this discussion, focuses on the economic perspectives to evaluate uncertainty for capital rationing decisions.

Everyone was affected by the economic impacts of COVID-19 including nonprofits. Donations plummeted and volunteers dried up but the community's need for help only grew. The table below provides information for the Transformation Station, a nonprofit that focuses on people experiencing homelessness for the first time. Transformation Station has determined they need a bigger storage facility. They first need to perform a sensitivity analysis to determine whether to build a larger storage facility.

	Conservative Estimate	Most Likely Estimate	Optimistic Estimate
Construction cost of warehouse	$5,000,000	$4,5000,000	$4,250,000
Residual value	$ 0.00	$180,000.00	$212,500.00
Useful life	25 years	25 years	25 years
Estimated annual net cost savings	$450,000	$585,000	$765,000.00
Rate of return	10%	12%	14%
PV factor for ordinary annuity	9.077	7.843	6.873
PV factor for lump sum	0.092	0.059	0.038

Part 1: Perform a sensitivity analysis (aka net present value) for the three options above. Show your work to receive full points.

Part 2: Remember that we have very little control over whether the Conservative, Most Likely, or Optimistic Estimate is realized. In other words, this analysis is similar to saying, "Well, we don't know exactly how much it will cost or how much you will save. However, we have done some analysis - based on the current economic environment - and we believe it will be somewhere between the Conservative and Optimistic Estimate." Answer Part 2 based on this knowledge.

If you were the director of the Transformation Station, would you build the warehouse? Why? Remember that the economy is volatile. While we have three estimates (conservative, most likely, and optimistic), the reality of our outcome is dependent on the economy which we have little control over.

Discussion Response Due by Saturday: Review another student's construction decision. Do you agree with the decision and why?