Project #35448 - Finance

Capital Budgeting Problem Parameters:

Consider the following expansion capital budgeting problem.

 

A capital budgeting decision is being considered that would involve an expansion and simultaneous replacement of old equipment.  The project is expected to have a 6 year life for the firm.

 

This project will replace some existing equipment which currently has a book value (BV) of $200k and an estimated market salvage value of $375k.  The new project will require new equipment costing $2.0 M, which will be depreciated straight-line to a book value of $200k at the end of 6 years.  Due to new energy efficient technology, replacing the old equipment with the new more efficient equipment will generate an immediate tax credit of 5% of the equipment’s cost.  The expansion will require an additional investment in NWC of $200k.

 

Sales are expected to increase by $1000k the first year and grow by 15% in years 2 and 3, then by 5% annually during the remaining 6 year life.  Cost of goods sold is forecasted to be 45% of the increased sales, and other selling and general administrative expenses are forecasted to be 10% of the increased sales.

 

It is forecasted that the new equipment will have a salvage value of $300k at the end of the project’s 6 year life. 

 

The firm’s weighted average cost of capital (WACC) for projects of this risk level is 8%.  The firm’s marginal tax rate is T = 40%.

 

Use the Excel template to complete the capital budgeting analysis.  Your Excel analysis should clearly indicate the cash flow analysis timeline and should provide the project’s NPV, IRR, PBP, PI, and also illustrate the project’s NPV Profile.

 


1.     Word document professional report that provides the following (in APA format):

2A. An overview and summary of the general capital budgeting process and how it is implemented within organizations,

2B. A glossary of capital budgeting related concepts and terms (alphabetically listed) with definitions and summary comments regarding the implications of the concepts and terms.  At a minimum, the key concepts and terms should include: NPV, NPV Profile, NPV = 0 meaning and implications, IRR, multiple IRRs, ranking conflict of NPV vs. IRR, Payback Period, profitability index, discount rate & cost of capital concept (and implications to valuation) Cash flow analysis (time zero initial investment cash flows, operating life cash flows, terminal period end of project cash flows), cash flow timeline, conventional cash flow stream, non-conventional cash flow stream, sunk cost, opportunity cost, independent projects, mutually exclusive projects, 

2C. A summary report of your capital budgeting analysis, including tables and graphs illustrating the analysis and the results of the analysis.

2D. Based on your NPV Scenario / Risk Analysis Grids, is NPV more sensitive to changing cost of capital or changing salvage values?  How do you determine this?

2E. Based on your NPV Scenario / Risk Analysis Grids, is NPV more sensitive to changing cost of capital or changing year one sales level assumptions?  How do you determine this?

 

 

Subject Mathematics
Due By (Pacific Time) 07/17/2014 12:00 pm
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