1 / 11

F305 Intermediate Corporate Finance

F305 Intermediate Corporate Finance. Indiana University Class 4. Alternative Uses of NPV/DCF Analysis. Cost cutting proposals Setting a bid price Comparing projects of unequal lives Matching cycles v. equivalent annual cost analysis When to replace equipment. Cost Cutting Proposals.

mohammad-ellis
Download Presentation

F305 Intermediate Corporate Finance

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. F305Intermediate Corporate Finance Indiana University Class 4

  2. Alternative Uses of NPV/DCF Analysis • Cost cutting proposals • Setting a bid price • Comparing projects of unequal lives • Matching cycles v. equivalent annual cost analysis • When to replace equipment

  3. Cost Cutting Proposals • Consider the following: • A $10,000 machine will reduce operating costs $3,000 per year over a 5 year period • No change in Net Working Capital • Scrap Value of $1,000 at the end of the period • Straight-line depreciation • Tax rate is 34% • Discount rate is 10% • Find the following: • Operating cash flow • After tax salvage value • Relevant cash flows • NPV of the project – is it acceptable or not?

  4. Setting the Bid Price • Consider the following: • The Army is seeking bids on multiple-use digitizing devices (MUDD) • 4 units per year delivered each of the next 3 years • Labor and materials are $10,000 per MUDD • Production space can be leased for $12,000 per year • Project requires $50,000 in new equipment that is expected to have a salvage value of $1,000 at the end of the project • Project requires an initial investment of $10,000 in NWC • Tax rate is 34% • Required rate of return is 15% • Assume straight line depreciation

  5. Setting the Bid Price (cont) • We are setting the price, so OCF is an unknown • Set-up a CF with known variables • Find the DCF assuming that OCF is $0 • This will result in negative Cash Flow • Set a three year annuity necessary to achieve break-even status • Calculate the components of OCF given the facts of the problem • This will give you an annualized sales figure that allows you to set the bid price!

  6. Investments of Unequal Lives • Matching operating cycles • Equivalent Annual Costs

  7. An Example • You must choose between two types of batteries to be used in electric golf carts at Bloomington Country Club • Burnout Batteries • Cost $36 each • 3 year life • $100 year to keep charged • Salvage value of $5 • Ever-go Batteries • Cost $60 each • 5 year life • $88 year to keep charged • Salvage value of $5 • Constant replacement of batteries is a given • 34% tax rate • 15% required rate of return • Assume straight-line depreciation

  8. Example (cont) • Find the relevant cash flows for both Burnout and Ever-go • Use Matching Operating Cycles • What is the matching operating cycle? • Use Equivalent Annual Costs

  9. General Decision on When to Replace • Consider whether Zeppelin Corp. should replace an existing machine • New machine costs $15,000 • Requires maintenance of $1,200 at the end of each year for 5 years • At the end of 5 years, salvage value = $4,500 • Assume a discount rate of 12%

  10. More on Zeppelin • Existing machine has the following maintenance requirements and salvage values for the next 5 years

  11. Zeppelin Machine Replacement(cont) • Find the Equivalent Annual Cost of the new machine • Compare to the cost of keeping the old machine

More Related