Assignment 1: LASA # 2—Capital Budgeting Techniques
By Friday, December 6, 2013, submit the following assignment:
As a financial consultant, you have contracted with Wheel Industries to evaluate their procedures involving the evaluation of long term investment opportunities. You have agreed to provide a detailed report illustrating the use of several techniques for evaluating capital projects including the weighted average cost of capital to the firm, the anticipated cash flows for the projects, and the methods used for project selection. In addition, you have been asked to evaluate two projects, incorporating risk into the calculations.
You have also agreed to provide an 8 pages report, in good form, with detailed explanation of your methodology, findings, and recommendations.
Company Information
Wheel Industries is considering a three-year expansion project, Project A. The project requires an initial investment of $1.5 million. The project will use the straight-line depreciation method. The project has no salvage value. It is estimated that the project will generate additional revenues of $1.2 million per year before tax and has additional annual costs of $600,000. The Marginal Tax rate is 35%.
Required:
Wheel has two other possible investment opportunities, which are mutually exclusive, and independent of Investment A above. Both investments will cost $120,000 and have a life of 6 years. The after tax cash flows are expected to be the same over the six year life for both projects, and the probabilities for each year’s after tax cash flow is given in the table below.
Investment B |
|
Investment C |
||
Probability |
After Tax |
|
Probability |
After Tax |
0.25 |
$20,000 |
|
0.30 |
$22,000 |
0.50 |
32,000 |
|
0.50 |
40,000 |
0.25 |
40,000 |
|
0.20 |
50,000 |
Assignment 2: Discussion Question
The finance department of a large corporation has evaluated a possible capital project using the NPV method, the Payback Method, and the IRR method. The analysts are puzzled, since the NPV indicated rejection, but the IRR and Payback methods both indicated acceptance. Explain why this conflicting situation might occur and what conclusions the analyst should accept, indicating the shortcomings and the advantages of each method. Assuming the data is correct, which method will most likely provide the most accurate decisions and why?
By Friday, December 6, 2013, respond to the discussion question. Submit your response to the appropriate Discussion Area.
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