Question
The day he was inaugurated, President Donald Trump issued his America First Energy Plan.[1] It presented policies it said would stimulate our economy, ensure our
The day he was inaugurated, President Donald Trump issued his America First Energy Plan.[1] It presented policies it said would stimulate our economy, ensure our security, and protect our health and thereby provide a brighter future. Trump has promised that his energy policy will create many millions of high-paying jobs.[2]
John Woods, the executive vice president and CFO of Woods Energy and Transportation Company, was very excited that the president energy plan would benefit his company. He immediately asked his Capital Budget Committee (CBC) to meet with him and his brothers to go over 10 projects representing $45 in capital expenditures from its two division. Capital Budget Committee and Project Selection
The Capital Budget Committee at Woods is composed of Woods brothers and Eriksen. Typically, Woods solicit investment proposal from managing directors and if the project cost exceeds $500,000, it required the approval of CBC. For this year, the directors have recommended 10 projects which exceeded the capital expenditure limits. The Woods brothers have imposed a spending limit on the total investment and have mandated to not exceed the firms internal funds.
With the new fiscal year, there was a need to determine which projects best fits the Companys future growth value enhancement. Thus, the challenge for the Committee was to allocate the funds among competing projects efficiently to increase the Companys value.
Table 1 and 2 provide a brief description of the projects and initial cost and the estimated cash flow of each project (after tax profit plus depreciation) over its estimated life.
Financial Information
At the end of 2015, the Company had net income of $79,893 and total asset was $1,017,032; consisting of $711,922, from to energy segment and $305,110 from transportation services.
On the basis of its net income, Woods wants to know how much money is available for capital investments as shown in Table 2. Its established common stocks dividend payout ratio after the preferred stock dividends payment is 50 percent of the funds. Currently the preferred stock has a 8 percent dividend yield with a par value of $100. A 12 percent cost of capital for funds generated internally has been used in the past, and Woods sees no reason to depart from this figure. Any additional funds used for capital budgeting purposes will have to come from external financing. In discussions with the Woods brothers, Woods informed them that any additional external funds will have a 14 percent rather than the 12 percent current cost of capital.
Questions:
- How much of the internal fund is available for investments?
- Which quantitative methods are useful to evaluate the projects?
- Discuss the strengths and weaknesses of the quantitative methods you used to select the projects.
- Which quantitative ranking results in the highest value to the company?
- Are there any conflicts among the rankings of the projects? How do you resolve the conflict in ranking?
- What project(s) should the CBC should recommend for the coming year based on 12 and 14 percent cost of capital?
- Are there any issues about the projects that CBC did not consider before the recommendation
| Table 2- Projects: | Energy | Transportation | Energy | Energy | Energy | Energy | Energy | Transportation | Transportation | Energy |
| Investment | ($4,000,000) | ($3,000,000) | ($3,000,000) | ($4,000,000) | ($7,000,000) | ($4,000,000) | ($5,000,000) | ($5,000,000) | ($5,000,000) | ($5,000,000) |
| Project Life |
|
|
|
|
|
|
|
|
|
|
| 1 | $750,000 | $1,250,000 | $550,000 | $1,250,000 | $1,500,000 | $2,000,000 | $2,250,000 | $900,000 | $1,500,000 | $500,000 |
| 2 | $750,000 | $975,000 | $550,000 | $1,250,000 | $1,500,000 | $2,000,000 | $2,250,000 | $900,000 | $1,400,000 | $650,000 |
| 3 | $750,000 | $750,000 | $550,000 | $1,250,000 | $1,500,000 | $1,500,000 | $2,250,000 | $900,000 | $1,300,000 | $750,000 |
| 4 | $750,000 | $650,000 | $550,000 | $1,000,000 | $1,500,000 |
|
| $900,000 | $1,000,000 | $800,000 |
| 5 | $750,000 | $500,000 | $550,000 | $1,000,000 | $1,500,000 |
|
| $900,000 | $750,000 | $900,000 |
| 6 | $750,000 | $450,000 | $550,000 | $1,000,000 | $1,500,000 |
|
| $900,000 | $650,000 | $1,000,000 |
| 7 | $750,000 |
| $550,000 |
| $1,500,000 |
|
| $900,000 | $500,000 | $1,100,000 |
| 8 | $750,000 |
| $550,000 |
| $1,500,000 |
|
| $900,000 | $450,000 | $1,500,000 |
| 9 | $750,000 |
| $550,000 |
|
|
|
| $900,000 | $300,000 | $1,750,000 |
| 10 | $750,000 |
| $550,000 |
|
|
|
| $900,000 | $300,000 | $2,000,000 |
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Business Finance
Authors: Eddie McLaney
11th Edition
1292134402, 9781292134406
