In the present case, CQU Printers is a company which is looking to change the printer to enhance its operations and to make the operations efficient and effective. The present case elaborates that some changes have taken place in the market and to come in line with those changes company needs to replace its old printer with a new one. This case is all about the replacing decision of the company (Ryan & Ryan, 2002). Company have two choices they need to evaluate both the printers their revenue generating capacity in comparison with each other and with the old computer. The decision will be based on the NPV, payback period and IRR as the printer who have higher NPV, payback and IRR will be selected for the replacement (McKinney, 2015). The company also need to analysis as to replace the printer now that is at the end of third year or at the end of the useful life of the printer that is at the end of fifth year.
This case elaborates that the company is required to produce 50000 units annually. Old printer is to be replaced with the new printer to meet the annual demand of the company. The sale value of old printer at the end of 3rd year is $420000 and the sale value at the end of fifth year is 0. The cost of new printer A is $870000 and the cost of new printer B is $660000. The sale value of printer A after its useful life that is 5 years is $400000 and the sale value of printer B after 5 years is $330000. The book value after 5 years of printer A is $43500 and of printer B is $33000. The cost of capital of the company is 14% and tax rate is 40%. Here we present a table about the profit of old printer, printer A and printer B:
|
Profit before Depreciation and Taxes for CQU Printers |
|||
|
Year |
Old printer |
Printer A |
Printer B |
|
1 |
$ 1,20,000 |
$ 2,50,000 |
$ 2,10,000 |
|
2 |
$ 1,20,000 |
$ 2,70,000 |
$ 2,10,000 |
|
3 |
$ 1,20,000 |
$ 3,00,000 |
$ 2,10,000 |
|
4 |
$ 1,20,000 |
$ 3,30,000 |
$ 2,10,000 |
|
5 |
$ 1,20,000 |
$ 3,70,000 |
$ 2,10,000 |
The company need to evaluate the installation cost, terminal cash flows and total cash flows of the project before investing in the project. With the help of this evaluation the company will get to know as if which project is best and which project is worth full for the investment of the company (Renz, 2016). The company will also get to know about the cash flows generated from both the projects. Here we present the calculations regarding Initial Investment, Cash flow and terminal cash flows for five years of both the proposals:
Initial Investment is the amount that comprises of the cost of acquisition and working capital requirements and the installation cost of the asset (Petty, Titman, Keown, Martin, Martin, & Burrow, 2015). In the resent case there are two printers and the initial investment for both the printers is presented below:
|
Calculation of initial investment |
||
|
Printer A |
Printer B |
|
|
Cost of Acquisition |
$ 8,70,000 |
$ 6,60,000 |
|
Less: Sale value of old printer |
$ 4,20,000 |
$ 4,20,000 |
|
Initial Investment |
$ 4,50,000 |
$ 2,40,000 |
This table shows that the initial investment required for printer A is $450000 and for printer B is $240000. The initial investment of printer B is lower than printer A.
Here we do present the profit earned by the company if the old printer is sold as of now means at the end of third year.
|
Statement of Profit (Selling the Old Printer now) |
|
|
Installed Cost |
$ 4,00,000 |
|
Less: Depreciation for three years |
$ 1,50,000 |
|
Value of printer at the end of 3rd year |
$ 2,50,000 |
|
Selling price |
$ 4,20,000 |
|
Profit from selling the printer |
$ 1,70,000 |
The operating cash inflows represent the amount which the company will receive after investing in a particular project through its operating activities (Brigham & Ehrhardt, 2013). Here we present the operating cash flows of both the investment proposals.
|
Statement of differential cash flows (Printer A) |
||||||
|
Particulars |
1 |
2 |
3 |
4 |
5 |
|
|
Incremental Depreciation |
$ 1,15,300 |
$ 1,15,300 |
$ 1,15,300 |
$ 1,15,300 |
$ 1,15,300 |
|
|
Cash Flows from Printer A |
$ 2,50,000 |
$ 2,70,000 |
$ 3,00,000 |
$ 3,30,000 |
$ 3,70,000 |
|
|
Cash Flows from Old Printer |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
|
|
Incremental Cash Flows |
$ 1,30,000 |
$ 1,50,000 |
$ 1,80,000 |
$ 2,10,000 |
$ 2,50,000 |
|
|
Incremental EBIT |
$ 14,700 |
$ 34,700 |
$ 64,700 |
$ 94,700 |
$ 1,34,700 |
|
|
Less: Tax @ 30% |
$ 4,410 |
$ 10,410 |
$ 19,410 |
$ 28,410 |
$ 40,410 |
|
|
Incremental EAT |
$ 10,290 |
$ 24,290 |
$ 45,290 |
$ 66,290 |
$ 94,290 |
|
|
Incremental Cash Inflows |
$ 1,25,590 |
$ 1,39,590 |
$ 1,60,590 |
$ 1,81,590 |
$ 2,09,590 |
|
|
Working capital Changes |
$ -90,400 |
|||||
|
Total Operational cash Flows |
$ 7,26,550 |
The above table shows the operating cash inflows for the company for printer A $ 726550.
|
Statement of Differential Cash Flows (Printer B) |
||||||
|
Particulars |
0 |
1 |
2 |
3 |
4 |
5 |
|
Incremental Depreciation |
$ 75,400 |
$ 75,400 |
$ 75,400 |
$ 75,400 |
$ 75,400 |
|
|
Cash Flows from Printer A |
$ 2,10,000 |
$ 2,10,000 |
$ 2,10,000 |
$ 2,10,000 |
$ 2,10,000 |
|
|
Cash Flows from Old Printer |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
|
|
Incremental Cash Flows |
$ 90,000 |
$ 90,000 |
$ 90,000 |
$ 90,000 |
$ 90,000 |
|
|
Incremental EBIT |
$ 14,600 |
$ 14,600 |
$ 14,600 |
$ 14,600 |
$ 14,600 |
|
|
Less: Tax @ 30% |
$ 4,380 |
$ 4,380 |
$ 4,380 |
$ 4,380 |
$ 4,380 |
|
|
Incremental EAT |
$ 10,220 |
$ 10,220 |
$ 10,220 |
$ 10,220 |
$ 10,220 |
|
|
Incremental Cash Inflows |
$ 85,620 |
$ 85,620 |
$ 85,620 |
$ 85,620 |
$ 85,620 |
|
|
Total Operational cash Flows |
$ 4,28,100 |
This table depicts the cash inflows of company if they will invest in printer B and the total cash inflows are $428100.
Working Notes:
|
Calculation of differential Depreciation |
||
|
Year 1 to 5 |
Printer A |
Printer B |
|
Depreciation |
$ 1,65,300 |
$ 1,25,400 |
|
Depreciation on Old Machine |
$ 50,000 |
$ 50,000 |
|
Differential Depreciation |
$ 1,15,300 |
$ 75,400 |
Terminal Cash Flows are the cash flows which the company will get after terminating the project that is after the end of the useful life of the printers if we talk about these companies’ terminal cash flows (Levi & Welch, 2014). The terminal cash flows of both the proposals are depicted below:
|
Calculation of Terminal Cash Flows |
||
|
Printer A |
Printer B |
|
|
Book Value |
$ 43,500 |
$ 33,000 |
|
Sale Value |
$ 4,00,000 |
$ 3,30,000 |
|
Capital Gain |
$ 3,56,500 |
$ 2,97,000 |
The above table shows the terminal cash flows of printer A and printer B. The terminal cash flow of printer A is $356500 and the terminal cash flow of project B is $297000
Cash Flow Stream is the equal to the total value of the cash flows at present value. It helps in the evaluation of the present value of the future cash flows to evaluate the best project. The calculations are being present in the below table regarding relevant cash flow stream:
|
Printer A |
||||||
|
Cash Flows Stream |
0 |
1 |
2 |
3 |
4 |
5 |
|
initial Investment |
$ -4,50,000 |
|||||
|
Incremental Depreciation |
$ 1,15,300 |
$ 1,15,300 |
$ 1,15,300 |
$ 1,15,300 |
$ 1,15,300 |
|
|
Cash Flows from Printer A |
$ 2,50,000 |
$ 2,70,000 |
$ 3,00,000 |
$ 3,30,000 |
$ 3,70,000 |
|
|
Cash Flows from Old Printer |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
|
|
Incremental Cash Flows |
$ 1,30,000 |
$ 1,50,000 |
$ 1,80,000 |
$ 2,10,000 |
$ 2,50,000 |
|
|
Incremental EBIT |
$ 14,700 |
$ 34,700 |
$ 64,700 |
$ 94,700 |
$ 1,34,700 |
|
|
Less: Tax @ 30% |
$ 4,410 |
$ 10,410 |
$ 19,410 |
$ 28,410 |
$ 40,410 |
|
|
Incremental EAT |
$ 10,290 |
$ 24,290 |
$ 45,290 |
$ 66,290 |
$ 94,290 |
|
|
Incremental Cash Inflows |
$ -4,50,000 |
$ 1,25,590 |
$ 1,39,590 |
$ 1,60,590 |
$ 1,81,590 |
$ 2,09,590 |
|
Working Capital |
$ -90,400 |
|||||
|
Cash Flows |
$ -5,40,400 |
$ 1,25,590 |
$ 1,39,590 |
$ 1,60,590 |
$ 1,81,590 |
$ 2,09,590 |
|
PVF @ 14% |
1.000 |
0.877 |
0.769 |
0.675 |
0.592 |
0.519 |
|
PV of Cash Flows |
$ -5,40,400 |
$ 1,10,167 |
$ 1,07,410 |
$ 1,08,394 |
$ 1,07,516 |
$ 1,08,854 |
|
Terminal cash Flows |
$ 3,56,500 |
|||||
|
PV of Terminal Cash Flows |
$ 1,85,155 |
|||||
|
PV of Cash Flows |
$ 1,87,096 |
This table shows the cash flow stream of printer A that is $187096.
|
Printer B |
||||||
|
Particulars |
0 |
1 |
2 |
3 |
4 |
5 |
|
Incremental Depreciation |
$ 75,400 |
$ 75,400 |
$ 75,400 |
$ 75,400 |
$ 75,400 |
|
|
Cash Flows from Printer A |
$ 2,10,000 |
$ 2,10,000 |
$ 2,10,000 |
$ 2,10,000 |
$ 2,10,000 |
|
|
Cash Flows from Old Printer |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
$ 1,20,000 |
|
|
Incremental Cash Flows |
$ 90,000 |
$ 90,000 |
$ 90,000 |
$ 90,000 |
$ 90,000 |
|
|
Incremental EBIT |
$ 14,600 |
$ 14,600 |
$ 14,600 |
$ 14,600 |
$ 14,600 |
|
|
Less: Tax @ 30% |
$ 4,380 |
$ 4,380 |
$ 4,380 |
$ 4,380 |
$ 4,380 |
|
|
Incremental EAT |
$ 10,220 |
$ 10,220 |
$ 10,220 |
$ 10,220 |
$ 10,220 |
|
|
Incremental Cash Inflows |
$ -2,40,000 |
$ 85,620 |
$ 85,620 |
$ 85,620 |
$ 85,620 |
$ 85,620 |
|
PVF @ 14% |
1.000 |
0.877 |
0.769 |
0.675 |
0.592 |
0.519 |
|
PV of Cash Flows |
$ -2,40,000 |
$ 75,105 |
$ 65,882 |
$ 57,791 |
$ 50,694 |
$ 44,468 |
|
Terminal Cash Flows |
$ 2,97,000 |
|||||
|
PV of Terminal Cash Flows |
$ 1,54,252 |
|||||
|
PV of Cash Flows |
$ 2,08,193 |
This table shows the present value of cash flow stream of $208193.
After the evaluation of the cash flows of the project, there is need to take the analysis of NPV, IRR and payback period of both the printers. The decision is to be based on the NPV, IRR and payback period.
Payback period shows the time taken to recover the initial investment by the company (Larson & Gray, 2013). Following is the calculations of the payback period of Printer A and printer B.
|
Calculation of Payback Period (Printer A) |
||
|
Year |
Cash Flow |
Cumulative Cash Flow |
|
1 |
$ 1,25,590 |
$ 1,25,590 |
|
2 |
$ 1,39,590 |
$ 2,65,180 |
|
3 |
$ 1,60,590 |
$ 4,25,770 |
|
4 |
$ 1,81,590 |
$ 6,07,360 |
|
5 |
$ 2,09,590 |
$ 8,16,950 |
|
Payback Period |
3.63 |
The payback period for investing in printer A is 3.63 years.
|
Calculation of Payback period (Printer B) |
||
|
Year |
Cash Flow |
Cumulative Cash Flow |
|
1 |
$ 85,620 |
$ 85,620 |
|
2 |
$ 85,620 |
$ 1,71,240 |
|
3 |
$ 85,620 |
$ 2,56,860 |
|
4 |
$ 85,620 |
$ 3,42,480 |
|
5 |
$ 85,620 |
$ 4,28,100 |
|
Payback Period |
2.80 |
The payback period for investing in printer B is 2.80years.
Net Present Value represents the total profit which the company will realise from investing in the particular proposal (Grant, 2016). The table below shows the NPV of both the proposals:
|
Net present value (Printer A) |
|||
|
Year |
Cash Flows |
PVF @ 14% |
PV |
|
0 |
$ -5,40,400 |
1.000 |
$ -5,40,400 |
|
1 |
$ 1,25,590 |
0.877 |
$ 1,10,167 |
|
2 |
$ 1,39,590 |
0.769 |
$ 1,07,410 |
|
3 |
$ 1,60,590 |
0.675 |
$ 1,08,394 |
|
4 |
$ 1,81,590 |
0.592 |
$ 1,07,516 |
|
5 |
$ 5,66,090 |
0.519 |
$ 2,94,009 |
|
NPV |
$ 1,87,096 |
The NPV of investing in printer A is $187096. That is the company have a chance to accept the proposal as its NPV is positive.
|
Net present value (Printer B) |
|||
|
Year |
Cash Flows |
PVF @ 14% |
PV |
|
0 |
$ -2,40,000 |
1.000 |
$ -2,40,000 |
|
1 |
$ 85,620 |
0.877 |
$ 75,105 |
|
2 |
$ 85,620 |
0.769 |
$ 65,882 |
|
3 |
$ 85,620 |
0.675 |
$ 57,791 |
|
4 |
$ 85,620 |
0.592 |
$ 50,694 |
|
5 |
$ 3,82,620 |
0.519 |
$ 1,98,721 |
|
NPV |
$ 2,08,193 |
The NPV of investing in printer B is $ 208193.
The NPV of investing in printer B is higher than the NPV of investing in printer A. That means the company will be more profitable if the proposal only consider the NPV of the project (Kerzner, 2013).
The internal rate of return is calculated to know that the investment in the new proposal have a return higher or lower than its cost of capital (Brooks, 2015). The table below presents the IRR of both the proposals:
|
Calculation of IRR (Printer A) |
|
|
Year |
Cash Flows |
|
0 |
$ -5,40,400 |
|
1 |
$ 1,25,590 |
|
2 |
$ 1,39,590 |
|
3 |
$ 1,60,590 |
|
4 |
$ 1,81,590 |
|
5 |
$ 5,66,090 |
|
IRR |
24.40% |
The IRR of printer A is 24.40% it is more than the companies cost of capital.
|
Calculation of IRR (Printer B) |
|
|
Year |
Cash Flows |
|
0 |
$ -2,40,000 |
|
1 |
$ 85,620 |
|
2 |
$ 85,620 |
|
3 |
$ 85,620 |
|
4 |
$ 85,620 |
|
5 |
$ 3,82,620 |
|
IRR |
37.93% |
The IRR of printer B is 37.93% which is more than the Cost of capital of the company.
If the decision is based only on IRR then the company will accept proposal B.
Here we do present the NPV and IRR of both the projects with the help of graph.
We can see that the IRR of Printer B is higher than Printer A.
(Akkizidis & Stagars, 2015)
The graph above shows that the NPV of printer B is higher than printer A.
We did analysed both the projects of the company and after a detailed analysis we found that NPV of Printer B is higher than Printer A and IRR of Printer B is higher than Printer A. Then we come to payback period the payback period of Printer B is less than Printer A. The NPV of printer A is $187096 and NPV of printer B is $208193. This means that investing in Printer B is much better than investing in Printer A (Vogel, 2014). The payback period of Printer A is 3.63 years and the payback period of Printer B is 2.80 years. The payback of printer B is less than Printer A that means investing in Printer B is good for the company. As we come to IRR the IRR of Printer A is 24.40% and the IRR of Printer B is 37.93% the IRR of Printer B is more than Printer A. Hence with the above analysis we can conclude that investing in Printer B is better than investing in Printer A (Barr & McClellan, 2018).
The above analysis is all about investing in new proposal which consist of two choices one is Printer A and the other is Printer B. We did analysed both the proposals very deeply and we came to know that investing in Printer B is far better than investing in Printer A as all the investing decisions are in the favour of our selection that is Printer B. The NPV of Printer B is high, The IRR of Printer B is more than Printer A and the payback period of Printer B is less than Printer A (Bodie, Kane & Marcus, 2014). Hence we should invest in printer B, this will increase the profitability of the company.
This study is all about the risk and return factor of both the investment proposals and the evaluation is done to investigate the best project for the company (Cole, 2004). On the basis of our analysis we came to know that the investment in Printer B is much better than investing in Printer A. When we analysis the cash flows of both the printer then we get that the cash flows of Printer A is more than Printer B but after that we get the final results that is NPV, IRR and payback period we got that investing in Printer B is the best option for the company (Vogel, 2014). The above analysis says that the cash inflows of Printer A are risk as its NPV, payback and IRR all are lower than Printer B.
References:
Akkizidis, I., & Stagars, M. (2015). Marketplace lending, Financial Analysis, and the Future of credit: Integration, Profitability, and risk management. John Wiley & Sons.
Barr, M. J., & McClellan, G. S. (2018). Budgets and financial management in higher education. John Wiley & Sons.
Bodie, Z., Kane, A., & Marcus, A. J. (2014). Investments, 10e. McGraw-Hill Education.
Brigham, E. F., & Ehrhardt, M. C. (2013). Financial management: Theory & practice. Cengage Learning.
Brooks, R. (2015). Financial management: core concepts. Pearson.
Cole, G. A. (2004). Management theory and practice. Cengage Learning EMEA.
Grant, R. M. (2016). Contemporary strategy analysis: Text and cases edition. John Wiley & Sons.
Kerzner, H. (2013). Project management: a systems approach to planning, scheduling, and controlling. John Wiley & Sons.
Larson, E. W., & Gray, C. (2013). Project Management: The Managerial Process with MS Project. McGraw-Hill.
Levi, Y., & Welch, I. (2014). Long-term capital budgeting. Unpublished working paper, Anderson Graduate School of Management, UCLA.
McKinney, J. B. (2015). Effective financial management in public and nonprofit agencies. ABC-CLIO.
Petty, J. W., Titman, S., Keown, A. J., Martin, P., Martin, J. D., & Burrow, M. (2015). Financial management: Principles and applications. Pearson Higher Education AU.
Renz, D. O. (2016). The Jossey-Bass handbook of nonprofit leadership and management. John Wiley & Sons.
Ryan, P. A., & Ryan, G. P. (2002). Capital budgeting practices of the Fortune 1000: how have things changed?. Journal of business and management, 8(4), 355.
Vogel, H. L. (2014). Entertainment industry economics: A guide for financial analysis. Cambridge University Press.
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