WACC calculation , business and finance homework help

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timer Asked: Oct 9th, 2016
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Question Description

The director of finance has discovered an error in his WACC calculation. He did not factor in the tax rate when determining the cost of debt. UPC has a line of credit at 4% interest, and the company is taxed at 30%. Further, assume that UPC’s required rate of return on equity is 14%, and its capital structure is 40% debt and 60% equity. Additionally, the budget committee question and answer session revealed that UPC has discovered a technology that will increase its product life span by 1 year. The new technology will add $120,000 and $130,000 to projects A and B’s initial capital outlay, respectively. Further, the finance department has determined that cash flows for years 1, 2, and 3 will be unchanged. However, net cash flows for year 4 will be $300,000 and $150,000 for projects A and B, respectively.

  • Using the attached Excel file, the UPC scenario, and the new information above, calculate the NPV, IRR, MIRR, and payback periods from projects A and B. You must input all of your data into an Excel spreadsheet and show all formulas.
  • Using MS Word, explain any risk factors inherent in the budgeting for the 2 projects.
Need some help. 

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Capital Expenditure Planning & Budgeting for Universal Parts Company Universal Parts Company - Estimated Cash Flows (CF) for Projects A & B (in thousands of dollars): Year 0 1 2 3 CFA ($1.000) $100 $600 $800 CFB Assumme that tax effects, depreciation, salvage ($1.000) values, and all operating costs have been included in $700 the cash flows $500 $200 Net Present Value (NPV) (1) Determine each project’s NPV. Activity: Choose both projects if two projects are independent, and their WACC = 10,00% NPVs are positive Activity: Choose the project with the higher positive NPV if the two projects are mutually exclusive NPVA = NPVB = $187,83 $199,85 Internal Rate of Return (IRR) (1) Determine each project’s IRR. The internal rate of return (IRR) is that discount rate which forces the NPV of a project to equal zero. NPV  $0  n CFt  (1  IRR ) t 0 Activity: Double-click on the equation to find out how you can insert an equation. t The solution to this equation can be found using Excel's IRR function. Activity: Choose both projects if two projects are independent, and their 18,1% IRRs are higher than the WACC Activity: Choose the project with the higher IRR in excess of WACC if the 23,6% projects are mutually exclusive IRRA = IRRB= Crossover Rate (1) Draw NPV profiles for Projects A and B. At what discount rate do the profiles cross? Project NPV Profiles WACC A NPV ($) $187,83 0% 500,00 600 5% 330,53 Project A 500 400 10% 187,83 Crossover rate = 8.68% 300 15% 66,66 Project B 200 20% -37,04 100 25% -126,40 0 -100 0% -200 5% 10% 15% 20% WACC IRR = crossover rate = 8,68% Project B $199,85 400,00 292,95 199,85 118,27 46,30 -17,60 25% Year 0 1 2 3 CFDifference $0 ($600) $100 $600 Modified Internal Rate of Return (MIRR) (1) Find the MIRRs for Projects A and B. Activity: MIRR is the internal rate of return for a series of a project’s cash flows, taking into account the cost of investment and interest on reinvestment of cash. Activity: Projects A and B's modified IRRs can be solved for by using Excel's MIRR function, entering their cash flows and using the WACC as both the discount rate and the reinvestment rate. MIRRA = 16,5% By the MIRR criteria, Project B is preferred to Project A, which is MIRRB = 16,9% consistent with the NPV decision. Payback Period (1) Find the paybacks for Projects A and B. Payback Calculations Project A Years Cash Flow Cumulative Cash Flow Payback A = 2 + 300/800 = Project B Years 1 + 300/500 = 1 2 3 | -1.000 -1.000 | 100 -900 | 600 -300 | 800 500 0 1 2 3 | -1.000 -1.000 | 700 -300 | 500 200 | 200 400 2,4 Cash Flow Cumulative Cash Flow Payback B = 0 1,6 ...
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Tutor Answer

askmeanything
School: Purdue University

Attached.

Capital Expenditure Planning & Budgeting for Universal Parts Company

Universal Parts Company - Estimated Cash Flows (CF) for Projects A & B (in thousands of dollars):
Tax= 30%
Kd= I(1-T)
Kd=0.04(1-0.3) = 2.8%
Ke= 14%
Year
CFA
CFB
0
($1,120)
($1,130)
Assumme that tax effects, depreciation, salvage values, a
1
$100
$700
operating costs have been included in the cash flows
2
$600
$500
3
$800
$200
4
300
150
Net Present Value (NPV)
(1) Determine each project’s NPV.
WACC = WdKd+WeKe
WACC =

9.52%

Activity: Choose both projects if two projects are independent, and their NPVs are positiv
Activity: Choose the project with the higher posi...

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