STEP 3 – Capital Budgeting-Decide Which Projects to Complete

  

STEP 3 – Capital Budgeting-Decide Which Projects to Complete

Another one of your responsibilities as CFO is to determine the suitability of new and current products.  Your CEO has asked you to evaluate Android01.  That task will require you to combine data from your production analysis from Project 2 with data from a consultant's study that was done last year.  Information provided by the consultant is as follows:

• initial investment: $120 million composed of      $50 million for the plant and $70 million net working capital (NWC) 
• yearly expenses from year 1 to year 3: $30      million 
• yearly revenues from year 1 to year 3: $0 
• yearly expenses from year 4 to year 10: $55      million 
• yearly expected revenues from year 4 to year 10:      $95 million 
• yearly expenses from year 11 to year 15: $60      million 
• yearly expected revenues from year 11 to year      15: $105 million 
• You are to calculate NPV using the “expected      values”. The actual cash flow may be variable (risky) and that is the      reason why the discount rate is greater than the riskless rate.

This concludes the information provided by the consultant.

You also have the following information:

• Assume that both expenses and revenues for a      year occur at the end of the year. NWC pays the bills during the year, but      has to be replenished at the end of the year. 
• Android01 is expected to cannibalize the sales      of Processor01 while also reducing the variable costs for the production      of Processor01. From years 4 to 10, revenues are expected to fall by $5M,      whereas variable costs will go down by $1 million. Processor01 is to be      phased out at the end of the 10th year. 
• At the end of the 15th year, the plant will be      scrapped for a salvage value of $10 million. NWC will be recovered. 

Question 10: Calculate the expected cash flows from the Android01 project based on the information provided.

Question 11: Calculate the NPV for a required rate of return of 6.5 percent. Also calculate the IRR and the Payback Period.

Be sure to show your calculations in Excel and provide a narrative analysis in Excel.  Your narrative analysis should summarize the results of your analysis and make recommendations for the benefit of the company.

Before you submit your assignment, review the competencies below, which your instructor will use to evaluate your work.  A good practice would be to use each competency as a self-check to confirm you have incorporated all of them in your work.

• 3.1 Identify numerical or mathematical      information that is relevant in a problem or situation.
• 3.2 Employ mathematical or statistical      operations and data analysis techniques to arrive at a correct or optimal      solution.
• 3.3 Analyze mathematical or statistical      information, or the results of quantitative inquiry and manipulation of      data.
• 3.4 Employ software applications and analytic      tools to analyze, visualize, and present data to inform decision-making.
• 10.3 Determine optimal financial decisions in      pursuit of an organization's goals.
• 10.4 Make strategic managerial decisions for      obtaining capital required for achieving organizational goals.

Additional Guidance on Project 4

For Q10, set up your problem in an income statement format, much like the following and establish a 15-year time line.

             Year 0         1       2     3    4     5     6    7     8    9      10     11      12    13      14     15

Revenue

Expense

 Item 1

 Item 2

 Item 3

Total Expense

Cash Flows (Rev - Exp)

Carefully, read the instruction and input the data in the respective cell for Revenue items and Expense items

Ques 11.  Calculate NPV for Cash Flows over the 15-year period; calculate IRR and payback