BUS401: Principles of Finance
Instructor Richard Burke
March 4th, 2013
Caledonia should focus on cash flows and not accounting profits when making capital-budgeting decisions. This is because free cash flows is received by the firm and then is able to be reinvested. Accounting profits are only shown once they have been earned instead of when the money is actually in hand (Kewon, Martin & Petty. 2011 p.303).taxes The company should be focused on total free cash flows because it can be reinvested immediately after being received.
Depreciation is a non-cash flow expense which is expensed over a certain period of time. It does not provide a cash flow. Instead it affects cash flows because it is a tax-deductible expense. The higher the depreciation expense the lower the profits are for the firm. This result in lower taxes (Kewon, et.al, 2011 p.308). Sunk costs are costs that already have been incurred and cannot be recouped and therefore should not be considered in an investment decision. This is because they have already been placed into the project and cannot be undone. The text states that “any cash flows that are not affected by the accept/reject criterion should not be included in the capital-budgeting analysis” (Kewon, et.al, 2011 p.305).
Initial outlay is the immediate cash outflow necessary to purchase the asset and put it in operating order (Kewon, et.al, 2011 p.506).
|1 |sales |70,000 x $300 |$21,000,000 | | |2 |sales |120,000 x $300 |$36,000,000 | | |3 |sales |140,000 x $300 |$42,000,000 | | |4 |sales |80,000 x $300 |$24,000,000 | | |5 |sales |60,000 x $260 |$15,600,000 | | |Sales x 10% of dollar of sales...