Finance Subject Assignment (MBA)

CASE ANALYSIS 3

QUESTION1. Identify which revenues and costs are relevant to your analysis, and which costs

are irrelevant. Summarize all the information that will be required for each investment proposal,

including describing the proposal and identifying the time horizon for each proposal evaluation.

ANSWER1. Investment in Roasted Coffee Plant Relevant Costs:

A. Acquisition price of plant and machinery

B. Acquisition price of additional equipment

C. Cost of direct materials

D. Cost of direct labor

E. Salaries of the manager

F. Insurance for the plant and equipmentThese relevant costs are comprised because they

comprise the cash inflows and cash outflows of the project.

Irrelevant costs

A. The total cost of the tax shield

B. The original cost of the plant and equipment

C. These costs are irrelevant costs because these are sunk costs

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Redevelopment of Coffee Shops Relevant Costs:

A. Cost of conversion of store

B. After tax cash flows

C. Loss due to after tax cash flows

Irrelevant costs: Nothing

Net present value = total cash inflows – total cash outflows

QUESTION2. Calculate the after-tax cash flows during the life of each of the projects.

ANSWER2.

Investment in Roasted Coffee Plant:

YEAR CASH FLOW (IN

POUNDS)

DISCOUNT FACTOR

AT 7%

DISCOUNTED CASH

FLOW

(AFTER TAX IN POUNDS) 1 0.934 1027400 2 1100000 0.872 959200 3 1000000 0.814 814000 4 900000 0.761 684900 5 800000 0.711 568800 6 700000 0.664 534800 7 600000 0.621 372600 8 500000 0.581 290500

So, the amount after tax cash flow is 5252200.

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Redevelopment of coffee shops.

YEAR CASH

FLOW(INDOLLARS

)

LOSS OF

CASH

FLOW (IN

DOLLARS)

NET CASH

FLOW (IN

DOLLARS)

DISCOUNT

FACTOR

AT 6%

DISCOUNTE

D CASH

FLOW (IN

DOLLARS) 1 30000 15000 15000 0.943 14145 2 30000 15000 15000 0.890 13350 3 30000 15000 15000 0.840 12600 4 30000 15000 15000 0.792 11880 5 30000 15000 15000 0.747 11205 6 30000 15000 15000 0.705 10575 7 30000 15000 15000 0.665 9975

So, the amount of after-tax cash flow 83730.

QUESTION3. Utilizing the after-tax cash flows from question 2, evaluate each investment

proposal utilizing the following criteria (unless directed otherwise):

A. Computation of payback period:

Payback period = total cash inflows/total cash outflows

Investment in Roasted Coffee Plant:

Cash Inflows:

Particulars Amount ($) Sales 3575000(1100000 units

*$3.25) Total cash inflows 3575000

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Cash outflows:

Particulars Amount ($) Cost of original roasting equipment 1400000 Cost of replacing equipment 200000 Material cost 286000($3575000*8%) Labor cost 250250(3575000*7%) Roasting processing cost 607750(3575000*17%) Salaries of the managers 50000 Insurance 40000 Incremental manufacturing overheads 75000 Transportation costs 429000(3575000*12%) Total cash outflows 3380000

So, the payback period = $3575000/$3380000 = 1.057 years

Redevelopment of coffee shops:

Cash inflows:

Particulars Amount Cash inflows 30000 Total cash inflows 30000

Cash outflows:

Conversion cost 80000 Total cash outflows 80000

Payback period = $30000/$80000 = 0.375 years

B. NET PRESENT VALUE:

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Net present value = total cash inflows – total cash outflows

Investment in Roasted Coffee Plant:

Net present value = $3575000-$3380000 = $195000.

Redevelopment of coffee shops

Net present value = $30000 - $80000 = ($50000)

QUESTION4. Clearly indicate whether any of the above criteria support each of the project

proposals, and what the company should ultimately decide to do.

ANSWER4. In the payback period method, the Redevelopment of Coffee shops strategy ought

to be picked since it has lower pay period than Investment in Roasted Coffee Plant method. In

the net present worth approach the Investment in Roasted coffee plant procedure ought to be

picked since it is higher net present a driving force than Redevelopment of Coffee Shops method.

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