Financial model
mark39
WorldwidePapercompany.edited.docxRunning head: WORLDWIDE PAPER COMPANY 1
WORLDWIDE PAPER COMPANY 4
Worldwide Paper Company Capital Budgeting Evaluation.
Name
Institution
The theory of finance suggests that managers only pursue capital investment ventures if they add value to the company. This means that they should recognize and implement all enterprise value-added programs to maximize returns (2020). In addition to this, the intended outcomes ought to be generated. Capital expenditure decisions will then be based on valuation calculations using methods such as discounted cash flow (DCF) and, specifically, the method of Net Present Value (2020). This paper focuses on the Blue Ridge Mill, the Worldwide Paper Company, case study whereby the director, Lucy Lang, was contemplating building a new long lumber yard on site. This introduction would generate primary benefits including removing the need to buy long-lumber from an external supplier, providing the ability to sell long-lumber on the open market as a new market entry as well as lowering operating costs while growing revenues. The question under review was whether the anticipated benefits over the six-year life of the project were adequate to warrant the $18 million capital outlay plus the additional expenditure in working capital. This can be assessed and evaluated after determining the NPV.
Setting the estimated value of projects includes calculating cumulative capital flows throughout project process pertinent to both the present value of capital and the expense involved. If it is successful according to results, then the project is valuable and therefore should be pursued. Organizations planning investments in new ventures must also first estimate future cash flows based on the procedure.
To calculate NPV for six years, it is equated to the sum of each future value of capital or the working capital divided by one added to the interest rate powered to the nth year. In the case of Worldwide Paper Company, the capital for the year 2017 is $16million but for the year 2018 has to be calculated first. $2million was the capital invested, added $2million as operating savings together with 10% of the annual revenue of $4million in that year. For the year 2019, the WC would be 10% of the incremental sale in the year added the $3.5million operating savings. The result remains the same for subsequent years.
To measure the interest rates for each year, the expense of the product produced must be applied, which is 75% of turnover and 5% of earnings, being the SG&A spending.
|
Year |
2017 |
2018 |
2019 |
2020 |
2021 |
2022 |
|
Future Value of revenue($million) |
16 |
4.4 |
4.5 |
4.5 |
4.5 |
4.5 |
|
Interest(cost on capital) ($million) |
12.8 |
3.52 |
3.6 |
3.6 |
3.6 |
3.6 |
The table below shows the summary of future values and interest rates required to calculate the Net Present Value.
To get the NPV= FV/(1+i)n
Since the results give us a positive figure, it implies that the project earns an excess return by the end of the sixth year. This is evident that the projected benefits were reasonable to validate the $18 million investment of capital plus incremental growth in cash flow over the project's six-year.
References
(2020). Retrieved 15 April 2020, from https://www.researchgate.net/publication/228630008_Capital_budgeting_A_case_study_analysis_of_the_role_of_formal_evaluation_techniques_in_the_decision_making_process
(2020). Retrieved 15 April 2020, from https://www.academia.edu/7825719/STRATEGIES_FOR_GLOBAL_INVESTMENT_and_EVALUATION_OF_CAPITAL_PROJECTS
Evaluation Techniques of Capital Budgeting - Financial Web. (2020). Retrieved 15 April 2020, from https://www.finweb.com/financial-planning/evaluation-techniques-of-capital-budgeting.html
