Week 9 Discussion Response- Managerial Finance
2
Capital Investment and Time Value of Money Analysis
Lakenya Campbell
MBAX 6070
Dr. Ed
Walden University
January 21st, 2016
Capital Investment and Time Value of Money Analysis
In this discussion, I would still use the same organization that was discussed in Week 8: a mid-sized healthcare services organization that is involved in the operation of outpatient clinics. During the new fiscal year, the organization is planning a capital outlay for a state-of-the-art diagnostic imaging equipment to increase its capacity to serve more patients and reduce their waiting time less than normal. The funding of the proposed project would be around 2 million dollars. The budgetary allocation would be approximately 1.6 million to buy and install the equipment, and the remaining 400,000 would help to train staff, upgrade facilities, and make initial maintenance contracts. The equipment will enhance cash inflows annually by boosting the number of patients and the reimbursement rate in a 10-year useful life.
Before making this capital investment, some of the questions to be asked about the financial position of the organization would have to be answered. As a manager, I would be interested in evaluating existing liquidity ratios to ensure that the organization is able to cover short-term commitments as it gets into a long-term debt. Another thing I would look into is current leverage values, such as the debt-to-equity ratio, to establish whether supplementary financing would pose too much financial risk. The stability of cash flows of the organization in the past would also be another important factor, as long-term financing obligations require constant cash flows to operate (Brigham and Houston, 2022).
Based on the concept of time value of money, the worth of this investment will be determined by whether the future cash flow values expected to be obtained at present will be higher or lower than the cost incurred. Due to inflation and opportunity costs, the future revenues of the equipment should be discounted to the reference value in the present since money will be worth more in the future than it is now (Brigham & Houston, 2022). The project would bring value to the organization in the event that the discounted cash inflows on the equipment made during its life are more than the investment of $2 million. Also, investing at the given moment can be beneficial in case the cost of financing is lower; the lower the discount rate, the higher the present value of the future cash flows.
The project is, however, also risky, and there are uncertainties in the demand for patients and the possibility of reimbursement policy changes. When projected cash flows are exaggerated, or there is an increase in the discount rates, then the present value can be less than the initial investment and hence no longer attractive. According to the time value of money concept, such a capital investment would be worthwhile only to the extent that the conservative estimates of cash flows would still give a positive net present value to provide the financial sustainability in the long run.
References
Brigham, E. F., & Houston, J. F. (2022). Fundamentals of financial management (16th ed.). Cengage Learning.