As a new intern for Caledonia Products, my CEO, Mr. V. Morrison has given me one of my first unsupervised assignments will be to provide the company with a financial analyst, that will include providing the calculations of cash flows associated with a new investment that the company is considering investing in. As I am an intern, I have not been asked to provide a recommendation just an analyst. (Keown Martin, Petty 11) Reviewing the information provided, Caledonia should focus on free cash flows rather than accounting profits, for the fact that these are the flows that the firm receives and can also reinvest. By looking at cash flows we are able to analyze the timing of the benefit or cost. The company should only be interested in the incremental cash flows, because the incremental cash flows will be marginal benefits from this project and increased value to the company. (Cite study paper) Although depreciation is a non-cash expense, it does affect the level of the differential cash flow, because it is a tax-deductible expense. The higher the depreciation expense, the lower the firms profits will be. (Keown Martin, Petty 11)
Sunk costs do not affect the determination of cash flow in this proposal. Our concern would be any incremental after-tax cost flows, or free cash flows, not the sunk cost because they will have already occurred, so they are ignored. (Keown Martin, Petty 11) The initial outlay is the immediate cash outflow necessary to purchase the asset and put it in operationing order. These amonuts include cost of purchasing assets and getting it operational, including the purchase price, shipping and installation ,and any traning costs for employees who will be operating the equipment, and any increases in working –capital requirements. (Keown Martin, Petty 11) In determing the differential annual free cash flows, we would need to determine the annual change in operating cash flow. We...
References: Keown, A. J., Martin, J. D., & Petty, J. W. (2011). Foundations of finance (7th ed.) [DX Reader version]. Retrieved from http://vitalsource.com/software/bookshelf/edmap-downloads/
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