1、,Cash Flows and Other Topics in Capital Budgeting,Chapter 10,Learning Objectives Discuss what is and what is not an incremental cash flow, and why they alone are relevant in capital-budgeting decisions. Explain how a projects benefits and coststhat is, its incremental after-tax cash flowsare calcula
2、ted. Explain how the capital-budgeting decision process changes when a limit is placed on the dollar size of the capital budget.,Cash Flows in General,Measure cash flows that change if a project is undertaken Sunk cost is irrelevant Opportunity cost is relevant Do not include allocation of existing
3、overhead Do subtract lost sales of other products Include cost savings as a positive cash flow.,Measure Incremental Cash Flows,Cash Flows in General,New Project vs. Replacement Project New project simply addition to company Replacement replace and existing old machine or plant. Financing costs - Int
4、erest and Dividend payments. are not considered operating cash flows. Financing cost are used to discount the cash flows to find NPV,etc. Only include CASH inflows and outflows.,Estimating Cash Flows,Initial Outlay,Three Types of Cash Flows,Initial Outlay,Estimating Cash Flows,Initial Outlay Operati
5、ng (Differential) Cash Flows,Three Types of Cash Flows,Initial Outlay,Operating Cash Flows,Estimating Cash Flows,Initial Outlay Operating (Differential) Cash Flows Terminal Cash Flow,Three Types of Cash Flows,Initial Outlay,Operating Cash Flows,Terminal Cash Flow,Estimating Cash Flows,Cost of Assets
6、 Installation and Shipping Non-Expense Outlays (i.e. Working Capital) Expense Outlays after tax (i.e. Training Expenses),Initial Outlay,Estimating Cash Flows,Cost of Assets Installation and Shipping Non-Expense Outlays (i.e. Working Capital) Expense Outlays after tax (i.e. Training Expenses),Initial
7、 Outlay,Sale of Old Machine,Only for Replacement Projects,Estimating Cash Flows,Initial Outlay,Sale of Old Machine Taxes on Machine,Only for Replacement Projects,Cost of Assets Installation and Shipping Non-Expense Outlays (i.e. Working Capital) Expense Outlays after tax (i.e. Training Expenses),Est
8、imating Cash Flows,Initial Outlay,Example: Gasperini Corp. is considering replacing their old production machine with a new one. The cost of the new machine is $48,000; installation and delivery cost $2,000. Working Capital requirements on the new machine are $3,000 immediately, and training costs a
9、mount to $4,000. The old machine can be sold for $10,000; its book value is zero. Gasperini has a marginal tax rate of 40%.,Estimating Cash Flows,Initial Outlay,Cost of Machine +48,000,Estimating Cash Flows,Initial Outlay,Cost of Machine +48,000 Installation & Shipping 2,000,Estimating Cash Flows,In
10、itial Outlay,Cost of Machine +48,000 Installation & Shipping 2,000 Working Capital 3,000,Estimating Cash Flows,Initial Outlay,Cost of Machine +48,000 Installation & Shipping 2,000 Working Capital 3,000 Training (after tax) 2,400,4,000(1-0.40),Estimating Cash Flows,Initial Outlay,Cost of Machine +48,
11、000 Installation & Shipping 2,000 Working Capital 3,000 Training (after tax) 2,400+55,400 Less: Sale of Old Machine,Estimating Cash Flows,Initial Outlay,Cost of Machine +48,000 Installation & Shipping 2,000 Working Capital 3,000 Training (after tax) 2,400+55,400 Less: Sale of Old Machine Salvage Val
12、ue 10,000,Estimating Cash Flows,Initial Outlay,Cost of Machine +48,000 Installation & Shipping 2,000 Working Capital 3,000 Training (after tax) 2,400+55,400 Less: Sale of Old Machine Salvage Value 10,000 Taxes 4,000,.4(10,000 0),Tax rate x (Salvage Value-Book Value),Estimating Cash Flows,Initial Out
13、lay,Cost of Machine +48,000 Installation & Shipping 2,000 Working Capital 3,000 Training (after tax) 2,400+55,400 Less: Sale of Old Machine Salvage Value 10,000 Taxes 4,000 6,000,Estimating Cash Flows,Initial Outlay,Cost of Machine +48,000 Installation & Shipping 2,000 Working Capital 3,000 Training
14、 (after tax) 2,400+55,400 Less: Sale of Old Machine Salvage Value 10,000 Taxes 4,000 6,000 Initial Outlay +49,400,Estimating Cash Flows,Initial Outlay,Cost of Machine +48,000 Installation & Shipping 2,000 Working Capital 3,000 Training (after tax) 2,400+55,400 Less: Sale of Old Machine Salvage Value
15、 10,000 Taxes 4,000 6,000 Initial Outlay +49,400,-49,400,Estimating Cash Flows,Example: Gasperini Corp. is considering replacing their old production machine with a new one. The cost of the new machine is $48,000; installation and delivery cost $2,000. Working Capital requirements on the new machine
16、 are $3,000 immediately, and training costs amount to $4,000. The old machine can be sold for $10,000; its book value is zero. Gasperini has a marginal tax rate of 40%. The new machine Gasperini Corp is considering buying will increase revenues by $5,000/yr and decrease costs by $8,000/ yr. They exp
17、ect to use the machine for 5 years, and expect to sell it for $15,000 in 5 years. Assume Gasperini uses the Simplified Straight Line method to depreciate assets.,Terminal Cash Flow,Recover Working Capital +3,000,Estimating Cash Flows,Example: Gasperini Corp. is considering replacing their old produc
18、tion machine with a new one. The cost of the new machine is $48,000; installation and delivery cost $2,000. Working Capital requirements on the new machine are $3,000 immediately, and training costs amount to $4,000. The old machine can be sold for $10,000; its book value is zero. Gasperini has a ma
19、rginal tax rate of 40%. The new machine Gasperini Corp is considering buying will increase revenues by $5,000/yr and decrease costs by $8,000/ yr. They expect to use the machine for 5 years, and expect to sell it for $15,000 in 5 years. Assume Gasperini uses the Simplified Straight Line method to de
20、preciate assets.,Terminal Cash Flow,Recover Working Capital +3,000 Sell “New” Machine 15,000,Estimating Cash Flows,Example: Gasperini Corp. is considering replacing their old production machine with a new one. The cost of the new machine is $48,000; installation and delivery cost $2,000. Working Cap
21、ital requirements on the new machine are $3,000 immediately, and training costs amount to $4,000. The old machine can be sold for $10,000; its book value is zero. Gasperini has a marginal tax rate of 40%. The new machine Gasperini Corp is considering buying will increase revenues by $5,000/yr and de
22、crease costs by $8,000/ yr. They expect to use the machine for 5 years, and expect to sell it for $15,000 in 5 years. Assume Gasperini uses the Simplified Straight Line method to depreciate assets.,Terminal Cash Flow,Recover Working Capital +3,000 Sell “New” Machine 15,000 Tax on Sale -6,000,.4(15,0
23、00-0),Estimating Cash Flows,Example: Gasperini Corp. is considering replacing their old production machine with a new one. The cost of the new machine is $48,000; installation and delivery cost $2,000. Working Capital requirements on the new machine are $3,000 immediately, and training costs amount
24、to $4,000. The old machine can be sold for $10,000; its book value is zero. Gasperini has a marginal tax rate of 40%. The new machine Gasperini Corp is considering buying will increase revenues by $5,000/yr and decrease costs by $8,000/ yr. They expect to use the machine for 5 years, and expect to s
25、ell it for $15,000 in 5 years. Assume Gasperini uses the Simplified Straight Line method to depreciate assets.,Terminal Cash Flow,Recover Working Capital +3,000 Sell “New” Machine 15,000 Tax on Sale -6,000 Terminal Cash Flow +12,000,Capital Rationing,In large companies, many projects are evaluated e
26、ach year Management often imposes a limit that can be spent on new projects adopted during the yearCapital RationingIn order to allocate scarce resources, choose the group of projects whose initial outlays are within the capital spending limit while at the same time maximizing NPV of the group of pr
27、ojects.,Capital Rationing,Example,Project IO NPV PI 1 50,000 1,500 1.03 2 40,000 3,000 1.075 3 30,000 2,500 1.083 4 20,000 1,000 1.05 5 90,000 6,000 1.067,The following independent projects are subject to a $100,000 capital budget.,All Projects have NPV 0, PI 1,Capital Rationing,Example,2, 3 & 4 40,
28、000 3,000+30,000 +2,500+20,000 +1,00090,000 6,500,ProjectCombinations IO NPV,Capital Rationing,Example,2, 3 & 4 40,000 3,000+30,000 +2,500+20,000 +1,00090,000 6,5005 90,000 6,000,ProjectCombinations IO NPV,Capital Rationing,Example,2, 3 & 4 40,000 3,000+30,000 +2,500+20,000 +1,00090,000 6,5005 90,00
29、0 6,0001 & 2 50,000 1,50040,000 3,00090,000 4,500,ProjectCombinations IO NPV,Capital Rationing,Example,2, 3 & 4 40,000 3,000+30,000 +2,500+20,000 +1,00090,000 6,5005 90,000 6,0001 & 2 50,000 1,50040,000 3,00090,000 4,5001,3 & 4 50,000 1,50030,000 2,50020,000 1,000100,000 5,000,ProjectCombinations IO NPV,Capital Rationing,Example,2, 3 & 4 40,000 3,000+30,000 +2,500+20,000 +1,00090,000 6,5005 90,000 6,0001 & 2 50,000 1,50040,000 3,00090,000 4,5001,3 & 4 50,000 1,50030,000 2,50020,000 1,000100,000 5,000,ProjectCombinations IO NPV,
