discussions 242

Respond with 200 words:

(Chris H) Net Present Value (NPV) method is a capital budgeting method for evaluating a capital investment projects which measures the difference between its cost and the present value of its expected cash flows. It is one of the most basic analytical methods underlying corporate finance and helps firms understand the amount by which the benefits from a capital expenditure exceed its costs. (Parrino, Bates, & Kidwell, 2015)

NPV is the sum present value of all discounted cash flows during the period in which a project sustains. The payback period is represented by the time in which all initial cash outflow will be recovered by the project from cash flows. When combined, both measures represent the analysis for assessing whether to accept the project or not.

In the example below, Hildebrandt Lawn Care is planning to undertake a project in which initial outflow is $50k and expected inflow from next years are $10k in year 1, $13k in year 2, $16k in year 3, $19k in year 4 and $22k in year 5. For NPV calculation, the required rate of return is 8%. In calculating the payback period for investment, we find the 3 years + (11/19) = 3.58 years.

By undertaking this project, Hildebrandt Lawn Care’s undertaking of the project will pay back its initial investment in 3.58 year, paying back its initial investment within the life of the project. This, combined with the positive NPV calculation, gives Hildebrandt Lawn Care the measurement required to accept the project.

respond with 200 words:

(Tyler A) The decision to invest in a long term capital project is an important one that companies contemplate seriously. There are two basic ways in which these firms assess the value and time frame of this value. They are the net present value, which is the cost of the project minus the future cash flows prediction. If a negative NPV is assessed the firm will most likely turn down the project, as the project is projected to cost more than it will earn. If the NPV is positive a firm will likely move forward with the project as they believe the project will add value to the company. The second tool used for project value assessment is the payback period. This is a calculation of how long the firm can expect to receive the expected positive NPV.

If I were assessing a project to determine whether to go ahead with it or deny, I would need the project to have a positive NPV. When accepting projects its very important for them to add value to the company. There are certain situations where a negative NPV would be acceptable, such as a project that looks to affect future projects in a positive way.

The project payback period is important as it determines time to recoup funds. This is important for understanding how long funds will be tied up for a project. It is always ideal to have the quickest payback period possible. It may be acceptable to sacrifice total NPV if the payback period is sooner.

respond with 200 words

(alexandra) Capital-budgeting decisions are the most important investment decisions made by management. These decisions determine the long-term productive assets that will create wealth for a firm’s owner. Capital investments are large cash outlays, long-term commitments, not easily reversed, and primary factors in a firm’s long-run performance. Capital-budgeting techniques help management systematically analyze potential opportunities in order to decide which are worth undertaking. Most of the information needed to make capital-budgeting decisions is generated internally, often beginning with the sales force. Capital investments are the most important decisions made by a firm’s management because they usually involve large cash outflows and once made are not easily reversed. These are usually long-term projects that will define the firm’s line of business and significantly contribute to the total revenue figure for years to come. One example of capital is financial capital. Financial capital is necessary in order to get a business off the ground. This type of capital comes from two sources: debt and equity. Debt capital refers to borrowed funds that must be repaid at a later date, usually with interest. Common types of debt capital are bank loans, personal loans, overdraft agreements, and credit card debt. Equity capital refers to funds generated by the sale of stock, either common or preferred shares. While these funds need not be repaid, investors expect a certain rate of return.

respond with 200 words

(chris)To immediately state the importance of capital investments, they define what a company is all about – the firm’s lines of business and its inherent business risk. For better or worse, capital investments produce most of a typical firm’s revenues for years to come. (Parrino, Bates, & Kidwell, 2015) These investments are usually very large in size and serve the purpose of furthering the company’s business objectives years in advance. The process of choosing the productive assets (capital or fixed) in which the firm will invest is known as Capital Budgeting.

These decisions are the most important investment decisions the firm’s management will make as the benefits are derived over a longer period of time which require careful analysis of the costs and benefits to determine viability of the investment. The further the analysis extends, the higher the associated risk of the investment as forecasting becomes more difficult to predict cost and revenues.

Once a firms management has decided where to invest, the investment incurred typically cannot be reversed; however, in cases which investments have, the reversal came at a substantial cost to the company. Over the long-term, the most successful firms are those whose managements consistently search for and find capital investment opportunities that increase firm value.respond with 200 words

(jordan) The Farmer’s Cow is an LLC company comprised of six Connecticut dairy farms that work like a cooperative venture. The Connecticut farmers all sell their milk under the label “The Farmer’s Cow”. The main forms of capital for this LLC are land, equipment, and livestock. Farmer’s Cow has raised capital through creditors, specifically a farm credit system which understands the highs and lows of the farming business more than a commercial bank, and through grants from the federal department of agriculture. They use the grant capital for marketing plans, business plans, and even a packaging concept. Grants became such a useful form of raising capital that they hired grant writers.

The coronavirus has many companies looking to raise capital in a down market. This, unfortunately, could mean giving up some ownership or cutting down expenses. Tesla has enacted downsizing measures going from 10,000 staff in a San Francisco factory down to 2,500, one-fourth of what it used to be (Wong, 2020). The state of the market has firms struggling for profitability right now and I would expect many companies will downsize at this current rate. Raising capital is harder now so firms should consider giving up ownership (equity capital) or getting loans (debt capital) to make it through these times.

respond with 200 words

(alexandra)It takes a lot of time and money to create a drug (to the extent of 10 years and billions of dollars). The article mentions that the optimal capital structure (percentage of debt, cash, and equity) of Pfizer is different from the traditional methods followed in the book, and here are the reasons mentioned by him. Pfizer has excess liquidity or excess cash on its balance sheet. So, net debt, which is the debt net of the cash, is less than the expected. Real options: There are various options involved during a long-term project like abandoning the project, accelerating the project. It is very difficult to capture these options using a traditional discounted cash flow approach; so the traditional approach becomes difficult. Stair-step nature of the discount rates – The risks involved in a project differ according to the stages i.e. a project in the initial stage may have high risk than the one in the later stage, hence differed discount rates. Calculating the return on invested capital for a pharma company: since the projects are long term and there is high upfront R&D investment. I believe the strongest challenge is uncertainty i.e. the options involved during the projects since there are a lot of projects going on simultaneously and they are long term, various options like abandon, acceleration which are uncertain may come out during an unexpected time and may require capital infusion; and since the cash flows are not certain then, that means defining capital structure by traditional method becomes difficult.