We discount a project’s cash flows by its risk- adjusted cost of capital, which is a weighted average (WACC) of the cost of debts, preferred stock, and common equity, adjusted for the project’s risk and debt capacity. Question 2 The $262,500 test marketing cost should not be included in the capital budget analysis because it is a sunk cost. Sunk Costs are defined as an outlay related to the project that was incurred in the past and cannot be recovered in the future regardless of whether or not the project is accepted. Therefore, sunk costs are not incremental costs and are not relevant in a capital budgeting analysis. Question 3 Question 4 If Heavenly Foods does not have an opportunity to lease the space, it is not free or costless to the lite product project.
What is the project’s net present value? When attempting to finance a project, it is important to know the financial health of the company. The net present value aids with analyzing the profitability of a project. It demonstrates the difference between the present value of the cash inflows and the cash outflows (Titman, Keown, & Martin, 2011). When a negative net present value is obtained, it is a sure indicator that the firm should not continue to invest in a project.
Since the Walton Work Wear line is in the production stage, its accumulated development costs should be capitalized. The Carroway Cool Top has not started it commercial production which would allow the development costs not to be amortized yet. Also interest costs on loans to generate financing for the R&D activates of a product can be capitalized rather than expensed. The capitalization of interest would allow CCL to reduce taxable income in the future when it is more profitable. I would recommend that CCL make the above changes immediately so that the financail statements are not incorrect.
A rising ROE suggests that a company is increasing its ability to generate profit without needing as much capital. It also indicates how well a company's management is deploying the shareholders' capital. In other words, the higher the ROE the better. Falling ROE is usually a problem. CAGR: Operating income, % Operating income (EBIT) measures a company's earning power from ongoing operations and it largely used by investor because it excludes the effects of different capital structures and tax rates used in different companies.
It will tell if the return will be above or below the needed amount to complete a project. The NPV fwill show differences of expected cash flow when comparing 2 projects. The acceptable benchmark includes all cash flows, cash coming in and being spent. A positive side is that the NPV is a statistic not a ratio, it is used to determine if a single project is worth doing as well as choosing between different projects. The downside is that it allows us to see the effect on the money needed to complete the projects as well.
If the IRR is less than the WACC, the project should be rejected, as it impoverishes the firm’s owners. If the IRR equals the WACC, it earns only normal profits (i.e., the owners’ opportunity costs) and accepting it is a matter of indifference. In this care the project’s IRR is 18.031 > 11.88%, therefore the IRR rule tells us the same as the NPV rule: this project will enrich the firm’s owners. We note in passing that in more advanced courses in finance you would learn about projects for which this rule cannot be used. Broadly speaking, they are projects whose cash flows changes sign more than once—e.g., from negative to positive to negative again.
Caledonia Products Integrative Problem FIN/370 March 25, 2013 Caledonia Products Integrative Problem 1. Why should Caledonia focus on project free cash flows as opposed to the accounting profits earned by the project when analyzing whether to undertake the project? Caledonia should focus on project free cash flows because the businesses can reinvest cash flows. Caledonia interest lies in incremental cash flows. Incremental cash flows increase the value from the organization because they are projects marginal benefits.
CanGo has very low profitability ratios, low turnover ratios and a high debt equity ratio. All these demonstrates that it’s in Cango’s best interest to take control of their financial performance, and focus on generating cash for the company, make better use of available resources and ensure that they are able to generate profit. The company should not take more debt and need to focus on how to use their existing resources to generate more cash flow to be able to operate and meet their financial obligations. Under the current operating system debt is increasingly being
Is the use of a monthly average price a net advantage or disadvantage to J & L? Using NYMEX contracts will minimize the asset mismatch aspect of basic risk, along with a better liquidity. However, since diesel fuel is not a traded commodity, it cannot be directly hedged and J&L will suffer a certain amount of basis risk. J&L will also need to post a margin for their future contracts at NYMEX. Using product offered by Continental Bank would require a higher cost for J&L, and illiquid compared with NYMEX.
Caledonia Products Integrative Problem FIN/370 July 31, 2012 Caledonia Products Integrative Problem 1. Why should Caledonia focus on project free cash flows as opposed to the accounting profits earned by the project when analyzing whether to undertake the project? Caledonia should focus on project free cash flows rather than accounting profits because the free cash flow is what the company will receive that can be re-invested into the company. Careful analysis of the free cash flow will help Caledonia determine the actual benefit and cost involved in the project. The main focus of the company should be on the incremental cash flow because this holds a marginal benefit from the project.