Egret Printing and Publishing Company

Presented by:
Himalaya Ban

General Background
Company Name: Egret Printing and Publishing

Company
Established on : 1956 Founders : John Belford and Keith Belford Vice President : Patrick Hill Products offered:
high quality print advertising materials calendars business printing and books

Capital investment alternatives

Project A : Major Plant Expansion

Project B : Alternative Plan for Plant Expansion

Project C : Purchase of New Press

Project D : Upgrade of Egrets Video Text

Service.

Answer 1 Discounted Payback Period

6 5 4 3 2 1 0 Project A Project C Discounted Payback period@ 15% Discounted Payback period@ 21%

Net Present Value

1400000 1200000 1000000 800000 600000 400000 200000 0 Project A Project B Project C Project D NPV @15%

Internal Rate of Return

40.00% 35.00% 30.00% 25.00% 20.00% 15.00% 10.00% 5.00% 0.00% Project A Project B Project C Project D IRR

Ranking of the project individually

C, A, B, D at 15% discount rate

C, B, A, D at 21% discount rate

Ranking investment proposal considering $1.5 m

Projects A and C A and D B and C B and D 15% I III II IV 21% II IV I III

Choice at 15%
1.6 1.4 1.2 1 0.8 0.6 0.4 0.2 0 A and c B and C C and D A and D PI index @ 15%

Choice at 21%
1.3 1.25 1.2 1.15 1.1 1.05 1 0.95 A and c C and D B and D PI index @ 21%

Answer 2
Limitations of Payback Period (PBP)
Fails to consider time value of money. Not a measure of profitability. Fails to consider all the cash flows. Fails to consider the magnitude and timing

of cash flows.

Limitations of NPV
Cost of capital or discounted factor chosen ,

may not be the current cost prevailing in the market.

Assumes the investment that is made have

the same level of risk throughout the entire time horizon which may not be possible.
It wholly excludes any real option that may

exist within the investment.

Limitations of IRR
It is not always consistent with the shareholders

wealth maximization as compared to NPV method

It does not discount at the opportunity cost of

capital. It assumes that the firm can reinvest at IRR.

The IRR rule can lead to multiple rates of return

whenever the sign of cash flows changes more than once.

Suggestions to the Company

Focus on cash flows, not profits

Focus on incremental cash flows.

Account for time.

Account for risk.

Comparing Projects withUnequal Lives

1. Replacement-chain (common life) approach 2. Equivalent annual annuity

Equivalent Annual Annuity (EAA)

Projects Project A Project B Project C Project D

EAA 115,127.87 109,162.66 247,498.37 51,688.44

Answer 3
1200000 1000000 800000 600000

Crossover rate 16.17%

NPV

400000 200000 0
Project A's NPV Project B's NPV

-200000 -400000 -600000

0%

200%

400%

600%

800% 1000% 1200%

IRR

Discount Rate

Crossover rate (16.16%)

Result

Remarks

15%

k < 16.16%

NPV A >NPV B

Project A is superior

21%

k >16.16%

NPV B >NPV A

Project B is superior

Answer 4
NPV 15% NPV 21% IRR PBP DPBP 15% DPBP 21% @ 3.54 years @ 3.75 years 2.11 years 5.53 years 4.05 years 1.87 years 4.48 years 3.48 years Project A Project B @ $164,577.6 0 @ $71,043.60 $100,488 26.61% 3.15 years 35.02% 1.48 years $310,088 29.94% 3.1 years $70,765 27.36% 2.56 years $156,038 Project C $621,137 Project D $153,835

Discounted PBP & IRR

NPV

Thus the conclusion will remain

same whether the cash flow is $175,000 or $ 195,000

Question 5

Unreasonable to claim that project B will generate a return approximately 35% over its four year life. The return of 35% is far higher compared to the actual reinvestment rate in the market. Project As IRR is equal to reinvestment rate which is 27%

Question 6
Belford Brothers has conservative feelings about debt

Hill should provide them the advantages of debt

financing.
Use of debt financing decreases the cost of capital. Reduces in the WACC Saves Tax Increase in total investment

Using the debt increases the level of investment to 2 million. This would make possible for company to invest in additional

projects
Now the company has a total fund of 2 million of investment fund

which would allow the company to invest either in project A, C and D or Project B, C and D.
Hence investment on Project D would also be possible if we use

debt.

Question 7 New capital structure

Capital Structure Equity Debt Total Amount 1,500,000 500,000 2,000,000 Weight 0.75 0.25 1 Cost (in %) 15 6.48 Weighted average 11.25 1.62 12.87%

PI at 12.87%
Projects A, C & D 2m NPV 1,082,366.738 PV 3,082,366.74 PI 1.54

B, C & D

2m

1,057,027.073

3,057,027.07

1.52

Extra Value Addition

Particulars Amount Net present value of selected projects after inclusion $1,082,366 of debt in capital structure (New A+C+D) Less: Net present value of selected projects before inclusion of debt in capital structure. (Old A+C) ( $786,714 )

Extra value additional due to use of debt financing

$ 295,652

Question 8
EBIT Less: Interest (12%) EBT Less: Tax @ 46% EAT Less: Dividends Retained Earnings Times Interest Earned Ratio $3,393,333.33 $60,000 $3,333,333.33 $1,533,333.33 $1,800,000 $300,000 $1,500,000 56.55

Question 9
In this case Projects A and B are mutually

exclusive projects which implies that only one project can be chosen at a particular point of time.
Project C is a conditional project whose

acceptance or rejection is dependent on the decision to accept or reject Project A or B.

 Yes the way project C is handled is valid

Project C stands top at both 15% and 21% with highest

NPV.
So as per the rule , the project having highest NPV

should have been chosen

Here Project C is the most suitable project. However it

cant be implemented due to its dependency

Question 10 Qualitative factors

Is the organization capable of carrying out the project in terms

of human resource, availability of raw materials and suppliers?

What relationship exists between the project and the firm? Is the market suitable to carry out the project? What and who can be the competitors for the project which

might make labor and capital scarce?

What are the Macro environmental elements and the project? Does this investment effects the quality of products and services

offered?

Conclusion and Lesson Learnt

Belford brothers should not be afraid to go for

debt financing

They can go for debt financing as well along

with equity financing.

Quantitative as well as Qualitative factors

should be considered while choosing projects

As a future manger
Capital

Budgeting Techniques should considering their limitations as well

be

used

Projects should be choosed based on their return,

risk , consistency and incremental cash flows.

Right technique should be chosen based on the nature

of project.