# Capital Budgeting Scenarios

**Topics:**Net present value, Capital budgeting, Investment

**Pages:**4 (872 words)

**Published:**October 24, 2012

Shannan Coleman

FIN/486

September 23, 2012

Sal Sadiq

Capital Budgeting Scenarios

Capital Budgeting: Proposal A – New Factory

Proposal A is to build a new factory to decide if this would be a feasible move for the company they need to perform a net present value analysis. To do this they will only need to look at the incremental cash flows, which are as follows: 1. Initial investment of $10 million that will be the cost to build the new factory. 2. Sales of $3 million a year that will result in an increase of $150,000 in gross margin giving the company a 5% gross margin. 3. Value of salvage at the end of the life of the project of $14 million. NPV Computation

The following table displays the NPV computation with a 10% weighted average cost of capital for this project. Year| Cash Flow| PV Factor| Present Value|

0| (10,000,000)| 1.0000 | (10,000,000)|

1| 150,000 | 0.9091 | 136,364 |

2| 150,000 | 0.8264 | 123,967 |

3| 150,000 | 0.7513 | 112,697 |

4| 150,000 | 0.6830 | 102,452 |

5| 150,000 | 0.6209 | 93,138 |

6| 150,000 | 0.5645 | 84,671 |

7| 150,000 | 0.5132 | 76,974 |

8| 150,000 | 0.4665 | 69,976 |

9| 150,000 | 0.4241 | 63,615 |

10| 14,150,000 | 0.3855 | 5,455,438 |

| NPV| | (3,680,709)|

The above table shows that the company will have a negative net present value of $3,680,709 for this project. The results being negative shows that if the company decides to build the new factory it will result in a decrease in the wealth of the stockholders invested in the company, which violates the concept of wealth maximization. Take in mind that this analysis was only for a 10-year period since this would be the expected economic life of a new factory....

References: Dayananda, D., Harrison, S., & Herbohn, J., Irons, R., Rowland, P. (2002). Capital Budgeting Financial appraisal of investment projects . New York, NY: Cambridge University Press.

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