U.S. Belts

A study of the industry and potential U.S. Belt customers revealed some interesting data (Table 1 and Table 2).The cost of the average conveyor belt system for their customers is $300,000.Installation, conversion to new bearings (the new belts require a new type of cool running ball bearing) will cost another $30,000.This expense will be added to the book value of the plants and be eligible for depreciation.A MACRS life class of three years would be employed, even though the aramid fiber belts would last on average 4 years.At the end of the four years the belts would have no economic value and a salvage value of zero.The depreciation on the belts under the current MACRS will be 33%, 45%, 15% and 7% in years 1 through 4 respectively.The average company will have a 11% cost of capital, and an annual tax rate of 28%.

The cost savings with the new belts are lower maintenance costs, far less downtime due to belt slippage, adjustment, and lower bearing replacement costs.The new aramid fiber belts are expected to save the average company $140,000/year.The new aramid fiber belts, however, would not have any useable life after their final year.They would be fully depreciated.The cost of removal would equal the scrap value would give them a net current market value of zero.

In a counter move the rubberized based conveyer belt manufacturers have brought out a newer, longer lasting type of belt that will sell for $210,000.Installation will cost another $20,000.As with the aramid fiber belts, this expense will be added to the book value of the plants and be eligible for depreciation.A MACRS life class of three years would be employed with the same depreciation rates and cost of capital as previously assumed.The newer type of rubberized belt would last 4 years.Also, the new rubberized belt is projected to save the average company $85,000/yr.In most cases the belts being replaced would have some useable life even though they are fully depreciated.The cost of removal minus the scrap value would give them a market values of $35,000.

Table 1

U.S. Belts New Aramid Fiber Belt

Projected Annual Net Cash Flows

NetDepreciationCost SavingsAnnual After

YearCostsTax Savings(After-Tax)Tax Cash Flows

0$(310,000)$(320,000)

1$38,115$91,000129,115

2$51,975$91,000142,975

3$17,325$91,000108,325

4$8,085$91,00099,085

Table 2

New Rubberized Conveyor Belts

Projected Annual Net Cash Flows

NetDepreciationCost SavingsSalvage Value Annual After

YearCostsTax Savings(After-Tax) (After-Tax) Tax Cash Flows

0$(208,000)$(218,000)

1$26,565$55,25081,815

2$36,225$55,25091,475

3$12,075$55,25067,325

4$5,635$55,250$22,75083,635

Your job is to develop a presentable capital budgeting template for U. S. Belt's sales force.Your model, for the most part, will help non-financial sales representatives sell the new product to both financially experienced and non-financial experienced plant mangers and purchasing agents.Your presentation must be clear, technically correct and easily understandable to both parties.

Note: Table 1 and table 2 are project assumptions are based off of the figures and calculations provided in the case.

Questions

1) What are the both projects' NPVs?What is the economic rational used to support NPV?

2) What are the both projects' IRR's?What is the economic rational used to support IRR?

3) What are the both projects' PBP's?What is the economic rational used to support PBP?

4) What are both project's MIRR?What is the economic rational used to support MIRR?What is more accurate, MIRR or IRR?Why?