Based on a “Franklin Smash Repairs”
Case Study (20% of final grade)
As Grace’s friend, she has asked you to assist her prepare a capital budgeting analysis for David and the family, along with an Executive Summary. She knows you are studying Financial Management at UTS and therefore know the correct methods for capital budgeting, including identifying the relevant cash flows and the correct treatment for them. Your submission must contain:
An executive summary containing your recommendation to accept or reject the project. Provide reasons for the recommendation and any other factors Grace should consider other than your spreadsheet answer. Include in your discussion the impact of a different inflation assumption. The Executive Summary should be a maximum one A4 page.
The capital budgeting analysis was conducted for Franklin Smash Repairs Pty Ltd (FSR) for expanding the company’s operations over the vacant plot available alongside the company. Upon assessing the net present value of the project under the analysis, it was evident that the project’s cash inflow, even at their discounted values, was higher than the project outflows. The result of which was a positive NPV, which was greater than zero. This implied that the project was viable to undertake and the company would be profitable over the long term if it undertook the project. The underlying considerations for the project were to account for the market values of the land involved, any sunk costs, and savings generated from the project. The other block on which the company is expecting to expand is currently vacant and has to be maintained currently at the cost of $17,000 per annum. This cost would not have to be incurred, once the new building for expansion services is built, which is why aside from the revenues, this would be another significant cash inflow from the project. The amount incurred on the feasibility study would have been incurred by John and the company irrespective of investment in the project in consideration, which is why the trip cost of $39,500 is a sunk cost and will not be included in assessing the viability of the project.
The initial costs of the project include the building constructed for housing the spray booth and workshop with the contingency of 5% included, the increased inventory of spare parts required, the car park construction cost, the purchase of the spray booth and its equipment, and the current land value being offered by a local company. The last cost has been included in the initial costs of the project, as it is an opportunity cost of the project, as the company would have increased its value by $236,000 had it sold the land but it is using it for expansionary purposes. The scrap value of the booth and the market value of the land after ten years has been estimated to be $373,000, which is another additional cash inflow in year 10. The cash outflows of the project include increased wages cost, materials for historic cars, insurance, building maintenance, repayments of the loan, and depreciation. Upon accounting for taxes of 30% of the profit generated, the depreciation estimated (showcased in the appendix) was added back to provide free cash flows for the project. The estimated free cash flows, as showcased in the appendix, were then discounted at the rate of 15%, presented an NPV of $1.53 million, when inflation is assumed to be 3%. However, the fact is that inflation levels in the country are subject to significant fluctuations, which is why one more scenario is created where inflation levels were assumed to be 7.8%. This scenario has also showcased a higher level of NPV in comparison to the base scenario, implying increased viability and success of the project.