The Allied Group Is Considering Two Investments

The Allied Group Is Considering Two Investments The First Investment

The Allied Group Is Considering Two Investments The First Investment

The Allied Group is considering two investments. The first investment involves a packaging machine, which can be used to package garments for shipping orders to customers. The second possible investment would be a molding machine that would be used to mold the mannequin parts. The first possible investment is the packaging machine, which will cost $14,000. The second investment, the molding machine, would cost $12,000. The expected cash flows for the two projects are given below and the cost of capital to the firm is 15%. Both machines will be unusable after five years and have no salvage value. The net cash flows for the two possible projects are given in the following table: OPEN ATTACHEMT

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Introduction

In the decision-making process for capital investments, companies analyze various projects based on their financial viability and strategic fit. The Allied Group's consideration of two such projects—the purchase of a packaging machine and a molding machine—necessitates a thorough evaluation of their financial metrics, primarily using techniques like Net Present Value (NPV), Internal Rate of Return (IRR), and Payback Period. These metrics help determine which project offers better value and aligns with the company’s financial goals, given the investment costs, cash flows, and the firm's cost of capital.

Initial Investment and Cash Flows

The initial cost of the packaging machine is $14,000, while the molding machine costs $12,000. These costs represent the upfront capital outlays required for each project. Both projects are expected to generate positive cash flows over a five-year span, after which the equipment becomes unusable and has no salvage value, thus streamlining the cash flow analysis to primarily consider the inflows during the operational period. The specifics of these cash flows, although not detailed here, are vital in calculating the NPV and IRR for each project.

Financial Analysis Techniques

The primary methods used to evaluate these investments are the Net Present Value (NPV), Internal Rate of Return (IRR), and Payback Period. NPV involves discounting all future cash flows to their present value using the firm’s cost of capital (15%) and subtracting the initial investment. A positive NPV indicates profitability, while IRR provides the discount rate at which the NPV equals zero, reflecting the project's internal profitability threshold. The Payback Period indicates how quickly the initial investment can be recovered from cash inflows, providing insight into liquidity and risk.

Analysis of the Packaging Machine

Considering the packaging machine's costs and its expected cash flows over five years, a detailed NPV calculation shows whether the project adds value to the firm. Given the investment and projected cash inflows, if the NPV is positive, the project is financially sound. The IRR is then compared to the company's requirement of 15%. If the IRR exceeds this threshold, the project remains attractive. Additionally, the Payback Period is evaluated to determine if the investment returns occur within an acceptable timeframe.

Analysis of the Molding Machine

The molding machine, with a lower cost of $12,000, will undergo a similar evaluation. Despite the lower initial investment, the cash flows might differ based on production efficiencies and market demand for molded mannequin parts. A comparative analysis will reveal which project provides superior financial returns and aligns with strategic objectives, such as capacity expansion or diversification of product offerings.

Decision-Making Criteria

The decision between these two investments hinges on their respective NPVs, IRRs, and payback periods. A project with a higher NPV and IRR above the company's threshold and a shorter payback period tends to be more favorable. Alongside financial analysis, strategic factors such as operational risk, market potential, and technological relevance also influence final decisions.

Conclusion

Investment analysis requires a comprehensive evaluation of financial metrics considering the costs, cash flows, and discount rate. For the Allied Group, calculating the NPV, IRR, and payback period for both the packaging and molding machines will identify the project that maximizes value and supports sustainable growth. Ultimately, the chosen investment should align with the company's strategic objectives, risk appetite, and financial constraints, ensuring beneficial allocation of capital resources.

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