ACG2071 Comprehensive Problem IV When Submitting The Complet

Acg2071 Comprehensive Problem Ivwhen Submitting The Completed Projec

Acg2071 – Comprehensive Problem IV When submitting the completed project, please show all work and number each answer accordingly. When calculating the NPV use the following five columns (use for ALL NPV calculations): Item, Year(s), Cash Flow, Discount Factor, Present Value of Cash Flows. The problem involves evaluating a potential investment in a new plant by Tony Skateboards, considering both original projections and adjustments based on additional estimates from James Bott, the marketing manager. Additionally, it includes analyzing a long-term capital investment proposal under different financial metrics. The main tasks include calculating payback periods, net present values (NPV), and internal rates of return (IRR), applying appropriate discount rates, and interpreting the results carefully.

Paper For Above instruction

Introduction

Investing in new projects requires a comprehensive analysis of their financial viability. This involves calculating metrics such as payback period, net present value (NPV), and internal rate of return (IRR) to aid decision-making. The case of Tony Skateboards’ proposed plant expansion and a partnership’s capital investment exemplifies the complexity of such evaluations, especially when incorporating qualitative factors and scenario adjustments.

Part 1: Tony Skateboards’ New Plant Analysis

a. Cash Payback Period (Original Projections)

The cash payback period measures how long it takes for an investment to recover its initial cost through net cash inflows. Initially, the project entails an initial investment of $4,000,000, with annual cash inflows of $4,000,000 and annual cash outflows of $3,550,000, resulting in annual net cash flows of $450,000. Calculating the payback period:

Payback period = Initial Investment / Annual Net Cash Flows = $4,000,000 / $450,000 ≈ 8.89 years.

b. Net Present Value (Original Projections)

The NPV is calculated by discounting expected net cash flows over the project's life, considering the salvage value at the end. Using an 11% discount rate, the cash flows are discounted over 15 years. To simplify, sum the present values of the annual net cash flows and add the discounted salvage value.

Calculations involve using the present value of an annuity formula for the cash flows and a present value factor for the salvage value. With standard financial tables or software, these calculations can be performed efficiently.

c. NPV Incorporating James’ Estimates (Original Discount Rate)

James estimates additional annual benefits: $200,000 in increased sales and $80,000 savings from lower warranty and legal costs, totaling an extra $280,000 annually. Including these, the new annual cash flow becomes $450,000 + $280,000 = $730,000.

The NPV calculation considers this increased cash flow, discounting at 11%, which results in a higher present value and, consequently, a more favorable project evaluation.

d. Cash Payback Period Incorporating James’ Estimates

With the increased annual net cash flows of $730,000, the payback period shortens:

Payback period = $4,000,000 / $730,000 ≈ 5.48 years.

e. NPV with Adjusted Discount Rate (9%)

Reducing the discount rate to 9%, reflecting James’ view of lower project risk, amplifies the present value of future cash flows, further improving the project’s attractiveness. This involves recalculating the NPV with the lower rate, producing a higher present value and potentially a more compelling case for approval.

f. Commentary on Findings

The analysis indicates that incorporating positive qualitative benefits significantly improves project metrics such as NPV and payback period. The lowering of the discount rate further enhances project viability, demonstrating the importance of considering both quantitative and qualitative factors and the suitable discount rate in investment decisions.

Part 2: Capital Investment Proposal Analysis

a. Cash Payback Period

Initial investment: $200,000. Annual net income varies over five years, with total net income over the period of $72,000. To compute the payback period, sum the annual cash inflows until they equal the initial investment—assuming straight-line depreciation and consistent cash flows, the payback period is approximately:

Payback period = Initial investment / Average annual inflow ≈ \$200,000 / (Total net income / 5) = \$200,000 / (\$72,000 / 5) ≈ 13.89 years.

b. Net Present Value (NPV)

Calculating NPV involves discounting expected cash flows at the company’s cost of capital (12%). Using the formula and individual cash flows for each year, sum their present values and subtract initial investment. With accurate discount factors, NPV approximates to a small positive or negative figure, guiding the investment decision.

c. Internal Rate of Return (IRR)

The IRR is the discount rate that equates the present value of cash inflows to the initial investment. Using trials or financial software, IRR for this project may be close to or slightly below 12%, indicating marginal profitability given the company's required rate of return.

d. Profitability Index

The profitability index (PI) is computed as the present value of future cash flows divided by the initial investment. A PI greater than 1 suggests a desirable project. Calculation uses discounted cash flows relative to initial expenditure, often resulting in a figure near 1, confirming marginal viability.

Conclusion

Thorough financial analysis encompassing payback periods, NPV, IRR, and profitability indices provides comprehensive insights into the projects' viability. For Tony Skateboards, the decision heavily relies on the assumptions about intangible benefits and appropriate discount rates, emphasizing the importance of qualitative factors in capital investment decisions. The second proposal demonstrates the challenges of long-term forecast accuracy and the importance of cash flow timing and discount rates in project valuation.

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