This project requires an initial investment of $20,000,000 in equipment which will cost an additional $3,000,000 to install. The firm will use the attached MACRS depreciation schedule to expense this equipment. Once the equipment is installed, the company will need to increase raw goods inventory by $5,000,000, but it will also see an increase in accounts payable of $1,500,000. With this investment, the project will last 6 years at which time the market value for the equipment will be $1,000,000. The project will produce a product with a sales price of $20.00 per unit and the variable cost per unit will be $10.00. It is estimated the sales volume for this project will be 700,000 in year 1, 1,000,000 in year 2, 650,000 in year 3, 700,000 in year 4, 650,000 in year 5 and 550,000 in year 6. The fixed costs would be $2,000,000 per year. Because this project could use some existing company infrastructure, management has expressed some favoritism towards this project and as allowed for a reduced rate of return of 2 percentage point below its current WACC as the valuation hurdle it must meet or surpass.
Net Present Value
Net present value is the most important concept of finance. It is used to evaluate the investment and financing decisions that involve cash flows occurring over multiple periods. The difference between the present value of cash inflow and cash outflow is termed as net present value (NPV). It is used for capital budgeting and investment planning. It is also used to compare similar investment alternatives.
Investment Decision
The term investment refers to allocating money with the intention of getting positive returns in the future period. For example, an asset would be acquired with the motive of generating income by selling the asset when there is a price increase.
Factors That Complicate Capital Investment Analysis
Capital investment analysis is a way of the budgeting process that companies and the government use to evaluate the profitability of the investment that has been done for the long term. This can include the evaluation of fixed assets such as machinery, equipment, etc.
Capital Budgeting
Capital budgeting is a decision-making process whereby long-term investments is evaluated and selected based on whether such investment is worth pursuing in future or not. It plays an important role in financial decision-making as it impacts the profitability of the business in the long term. The benefits of capital budgeting may be in the form of increased revenue or reduction in cost. The capital budgeting decisions include replacing or rebuilding of the fixed assets, addition of an asset. These long-term investment decisions involve a large number of funds and are irreversible because the market for the second-hand asset may be difficult to find and will have an effect over long-time spam. A right decision can yield favorable returns on the other hand a wrong decision may have an effect on the sustainability of the firm. Capital budgeting helps businesses to understand risks that are involved in undertaking capital investment. It also enables them to choose the option which generates the best return by applying the various capital budgeting techniques.
maturity. The bonds carry a 10 percent semi-annual coupon, and are currently selling
for $899.24.
• The company also has 150,000 shares of $100 par, 9% dividend perpetual preferred
stock outstanding. The current market price is $90.00. Any new issues of preferred
stock would incur a 3.6% per share flotation cost.
• The company has 5 million shares of common stock outstanding with a current price
of $29.84 per share. The stock exhibits a constant growth rate of 10 percent. The last
dividend (D0) was $.80. New stock could be sold with flotation costs of 6.7% per
share.
• The risk-free rate is currently 6 percent, and the
whole is 13 percent. Your stock’s beta is 1.18.
• Your firm’s federal + state marginal tax rate is 28%.
• For all projects, the reinvestment rate shall be 9.5% This project requires an initial investment of $20,000,000 in equipment which will cost
an additional $3,000,000 to install. The firm will use the attached MACRS depreciation
schedule to expense this equipment. Once the equipment is installed, the company will
need to increase raw goods inventory by $5,000,000, but it will also see an increase in
accounts payable of $1,500,000. With this investment, the project will last 6 years at
which time the market value for the equipment will be $1,000,000.
The project will produce a product with a sales price of $20.00 per unit and the variable
cost per unit will be $10.00. It is estimated the sales volume for this project will be
700,000 in year 1, 1,000,000 in year 2, 650,000 in year 3, 700,000 in year 4, 650,000 in
year 5 and 550,000 in year 6. The fixed costs would be $2,000,000 per year. Because
this project could use some existing company infrastructure, management has expressed
some favoritism towards this project and as allowed for a reduced rate of return of 2
percentage point below its current WACC as the valuation hurdle it must meet or surpass.
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