Assess Capital Budgeting Problems – Replacement Project

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Background information:
The capital budgeting process includes both expansionary type problems and replacement problems. In this activity, we consider a replacement problem. In a replacement problem, we are interested in evaluating whether a new machine/asset offers enough benefits in terms of future cash flows to justify the capital expenditure. The key to completing this type of analysis is the concept of incremental. This means we want to think in terms of subtracting the old cash flows on the existing machine from the net cash flows on the new machine. Commonly, in this type of a problem, we will assume that the impact on sales revenue is zero and that the analysis comes down to weighing the costs of the new machine against the expense reduction offered by the new machine. For each machine, we again develop the free cash flows as follows:

Free Cash Flows = [EBIT(1-tax rate) + Depreciation and Amortization] – [Additional capital expenditures – additional net working capital]

The EBIT is defined as sales fewer variables, expenses less fixed expenses, less depreciation. We form the FCFs for each machine for each year into the future, and then the difference these future FCFs make to generate the incremental cash flows.

Reference:

1. Fundamentals of financial management (15th ed.)

2. Curmei Cătălin-Valeriu, Dincă Lavinia Elena, & Curmei-Semenescu Ileana Andreea. (2018). The influence of the strategic financial policies on share…

3. Li, H., Peng, J., & Li, S. (2015). Uncertain programming models for capital budgeting subject to experts’ estimations.

4. Trejo-Pech, C. J. O., Spreen, T. H., & Zansler, M. L. (2018). Is Growing Oranges in Florida a Good Investment? AMERICAN JOURNAL OF AGRICULTURAL ECONOM

 

Write a technical report:

Assume that a company’s machine was bought 10 years ago at a cost of $200,000. The machine had an expected life of 20 years at the time it was bought with a $0 salvage value. The annual depreciation expense is $10,000 and the current book value is $100,000. The market value of this machine is $90,000. A company is considering buying a new machine that costs $140,000, which has a projected 10-year life. The new machine is expected to reduce the firm’s operating expenses from $30,000 to $12,000. With the new machine, the firm’s pre-tax profits are anticipated to increase by $18,000 per year. If the company buys this new machine, the old machine will be sold. It’s projected that the new machine can be sold for $5,000 at the end of its life. The cost of capital is calculated based upon funding from retained earnings and from debt. The company is assumed to fund itself with 40% debt and 60% retained earnings. The cost of debt capital, rD, is 8%. The cost of capital from retained earnings, rS, is based upon the Capital Asset Pricing Model. The risk-free rate in the market is 3% and the difference between the expected return on the market and the risk-free rate is 5%. The beta of the company is 1.5. The tax rate is assumed to be 35%. Should the company buy a new machine? Please justify your answer. Please use Excel for the calculations. Please write your answers to the qualitative question in an MS Word document and paste your spreadsheet work into the Word document.

Sample Solution

an effect can only receive its reality from its cause. By this point, Descartes has already doubted and rejected the belief that there is an external world that resembles the ideas that are already in his mind. He did this because he believes that there is a possibility that he created these ideas out of other ideas which he had about himself. This means that ideas can give rise to other ideas. In order for Descartes to prove that there are other things besides himself that exists, he will have to show that he is not the original source of all of his ideas. He concludes that the only idea that must come from an external force is the idea of God. Descartes mind is limited, and he is unable to come up with the ideas of “omnipotence” or “infinity” by himself. In order for these ideas to have an objective reality in his mind, they must come from an outside force which has an equal or greater degree of formal reality. This source is God himself. This leads Descartes to conclude that our ideas of God are him branding himself into all of our minds.

In St. Thomas Aquinas’s, Summa Theologica, he includes the question as to whether or not God exists. He states, “Because the chief aim of the sacred doctrine is to teach the knowledge of God, not only as He is in Himself, but also as He is the beginning of things and their last end, and especially of rational creature…” (Aquinas 22). The sacred doctrine, or theology, is directed to teach about God’s beliefs and also how he created things, such as ourselves. He divides the topic of God’s existence into 3 articles: “Whether the existence of God is self-evident?”, “whether it can be demonstrated that God exists?”, and “whether God exists?” To the first article, Aquinas responds “ A thing can be self-evident in either of two ways: on the one hand, self-evident in itself, though not to us; on the other, self-evident in itself, and to us” (Aquinas 23). Things can have essence with or without existence. We do not know God’s essence, so he is not self-evident to us, but it can be established by the things that are already self-evident to us. In response to the second article, Aquinas explains that we can establish this by two ways. “One is through cause,and is called ‘a priori,’ and this is to argue from what is prior absolutely. The other is through the effect, and is called a demonstration ‘a posteriori’; this is to argue from what is prior relatively only to us” (Aquinas 25). A priori refers to our knowledge before any experience and a posteriori refers to our knowledge after our experiences. He goes on to explain that if we are more familiar with the effects of something, then we can attempt to find and know the cause as well. An object must always have something that previously existed before it, in order for the object to have been created or derived from the previous one. The effect always follows the cause which is pre-existing. Objects and beings on Earth always have first principles, but how did these first principles come about? Does there need to be a force that initiates change within these things? According to Aquinas, the effects must be proportionate t

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