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Capital Budgeting Case 
 
Category: Case Study Analysis | Word(s): 544 | Page(s): 3 | View(s): 625 | Rank: 0
 
To: Jane Auto Parts
From: Finance Analyst Team
Date: 9/25/2008
Subject: New Equipment-Recommendations

The following information will assist Jane Auto Parts in the decision of purchasing a new laser cutting machine or keeping the current machine. The information will contain the Net Present Value and the Internal Rate of Return on each given scenario. The recommendations will begin with the most beneficial option and end with the least convenient.

The data can be found in the reference pages attached with this document. Each scenario will be given its specific information and will include either a change in: ordinary tax rate, discount rate, or market value.

Scenario 1- 2% Discount Rate

A change in the discount rate, illustrates how the Internal Rate of Return is higher than the discount rate. It is in Jane’s best interest to purchase the equipment since the IRR of 10.91% is greater than the discount rate of 2%. In order to determine the final decision, we need to take Net Present Value into consideration. The NPV at a change of 2% discount rate demonstrates a $276,817.01. The calculations, therefore recommended purchasing the new equipment in this particular scenario.
Scenario 2- 9% Ordinary Tax Rate
With the option of a 9% ordinary tax rate, the calculations result in a 13.28% IRR. Since the IRR is higher than the discount rate, it is recommended that Jane purchases the equipment. The calculated NPV has a value of $194,759.16. Considering the high IRR and the NPV resulting greater than zero, it is in Jane best interest to purchase the equipment.
Scenario 3- Market Value $60,000
If the Market value of the existing machine changes to $60,000, the IRR results in 10.96%. Thus, the IRR is higher than the discount rate. Considering these calculations, Jane can purchase the machine and benefit from it. The NPV for this scenario results in $115,710.04, which should be considered as an option because it is greater than zero.
Scenario 4- Calculate NPV and IRR. Should Jane buy the new machine?
Having all data constant also creates a possible benefit for Jane. Without changing the data, the NPV displays an $114,430.04 sum. This can be taken into consideration as it is greater than zero and provides a benefit for Jane. The IRR demonstrates a10.91% and a discount rate of 6.75%. Comparing these two figures, we conclude that it is beneficial for Jane to consider this option as the IRR is greater than the discount rate.
Scenario 5- 14% Discount Rate
With an increasing discount rate to 14%, the results can lead to negative figures for Jane. The NPV for this option is negative $71,982.03. Since the NPV is not greater than zero, it is not recommended to invest in this option. Comparing the IRR of 10.91% and the discount rate of 14%, it is clear that the IRR is not greater than the discount rate. Consequently, the 14% discount rate can create a loss of profit for Jane Auto Parts.

The information provided above can help consider the best option for Jane. Taking into consideration the change in rates, it is recommended to select the top two scenarios. As a result, this can provide future returns and a successful Auto parts store.
 
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