Capital Budgeting Report

Scenario

Given that:

• WACC or cost of capital: 20%
• Tax rate: 30%
• 10% debenture of $10000000

Extraction of cash flow

Q Powerboat

Table 1

The above scenario is depicting extraction of Earnings before interest and tax over 6 years with use of sales revenue. The per boat price has been specified which is multiplied with quantity of total sale revenue. Further, variable cost has been excluded which is 40% of sales and factory overhead is fixed 200000 over 6 years. Moreover, depreciation is extracted as 2496000 which is also excluded and it originated EBIT of Q Powerboat.

Table 2

The table 2 is giving calculation of cash inflow which is extracted with EBIT calculated in above scenario. At the first step, to reach EBT interest is excluded  and to attain EAT 30% tax was deducted as well (Mubashar and Tariq, 2019). Depreciation is considered as accounting method to allocate cost of tangible asset over its useful  life and is implicated for accounting for declining value. It is a non cash accounting charge which does not affect amount of generated cash flow by company. The final cash flow is calculated by adding depreciation in earnings after tax.

Table 3: Assessment of inflows from powerboat parts:

The table 3 is reflecting assessment of inflows through parts of powerboat, as here cost of powerboat is specified in 1^st column and variable cost is at rate of 40% which is deducted and even loss of income as well. Its outcome of cash inflow is extracted over 6 years for assessing inflows through powerboat reports.

Table 4: Computation of net cash inflow

The table 4 would help in computing net cash inflow which is difference among cash inflow of company and outflow of specified duration. However, in this aspect cash inflow from powerboat and power boat parts is aggregated in this table of past 6 years.

Table 5: Computation of Net present Value

Net Present value is known as difference among present value of cash inflows and present value of cash outflows over particular duration. It helps in analysing profitability of forecasted investment or project. The Table 5 gives brief details related to net present value over 6 years (Maáji and Barnett, 2019). Its PV factor and discounted at 20% and it leads to aggregate of discounted cash flow of 25355280. In this project, its initial investment was extracted as 21300000. However, step for calculating Net present value, initial investment is excluded from total discounted cash flow ao with this context its net present value is 4055280 (25355280 – 21300000).

Working note:

Assessment of initial investment

Computation of depreciation

On basis of assessing initial investment extracted with help of cost of plant, installation cost and initial investment in stock. The extraction of initial investment is very important for every method of capital budgeting and helps for taking appropriate business decisions. In the same series, calculation of depreciation is also replicated at straight line method with 12% rate and applicable for 6 years and its final depreciation amount is 2496000.

Table 6

The above table is analysing payback period of Q powerboat which helps in reaching break even point or it could be elaborated that where initial investment cost is covered. Its initial investment is 21300000 which is covered in 2 years and 4 months (Srithongrung and et.al., 2019).

S Powerboat

In this aspect, cash inflows of S powerboat is analysed with use of two capital budgeting method as payback period and other is Net present value.

Table 7: Computation of payback period

The above table is giving extraction of payback period of 6 years of S powerboat as its initial investment is similar to Q power boat as 21300000. It is clearly viewed that in total 2 years and 9 months it's initial investment was covered.

Table 8 Calculation of NPV

Net present value is extracted by difference from total discounted cash inflows and initial investment of over 6 years. There is consideration of time value factor and its discounted factor is at rate of 20% of specified duration. However, its initial investment was 21300000 and aggregate of discounted cash inflow is about 27650880.92 of this duration. Henceforth, its net present value is 6850880.92 which is acceptable as well.

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Comparison of Q boat and S boat

The above table is stating difference in Q powerboat and S powerboat, or in simple words, which project is favourable to organization and gives high benefit with similar initial investment of 21300000. On basis of pay back period, Q power boat is highly advantageous because of fast recovery of initial investment cost as it has variation of 5 months. On the contrary, with consideration of net present value S powerboat is acceptable because of high positive value as compared to Q power boat (Srithongrung, Yusuf and Kriz,  2019). Henceforth, it has been recommended to select S powerboat for investment because it has high net present value and it considers time value of money as well. The payback period does not involve time factor which is great limitation because in the present scenario, it is most important factor for attaining success and make business decisions.

Conclusion

On basis of above report, it could be concluded that capital budgeting helps in undertaking various business decision and for making strategic plans. It has shown stepwise calculation for extracting cash flow and it has also shown importance of depreciation for analysing business strategic decisions. Thus, it has articulated importance of time value of money concept and here S powerboat is suggested to investment and for benefit.

References

• Ermasova, N. B. and Ebdon, C., 2019. The Case of Public Capital Budgeting and Management Processes in the United States. In Capital Management and Budgeting in the Public Sector (pp. 23-48). IGI Global.
• Maáji, M. M. and Barnett, C., 2019. Determinants of Capital Budgeting Practices and Risks Adjustment among Cambodian Companies. Archives of Business Research. 7(3).
• Mubashar, A. and Tariq, Y.B., 2019. Capital budgeting decision-making practices: evidence from Pakistan. Journal of Advances in Management Research. 16(2). pp.142-167.
• Srithongrung, A., Yusuf, J. E. W. and Kriz, K. A., 2019. A systematic public capital management and budgeting process. In Capital management and budgeting in the public sector (pp. 1-22). IGI Global.
• Srithongrung, A.and et.al., 2019. Capital management and budgeting in the public sector. IGI Global.

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