Written Assignment week 3 pw fin management

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Nov 24, 2024

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1 Written Assignment BUS 5111-01 - AY2024-T2 Financial Management Unit 3: Capital Budgets Dr. Rebecca Attah University of the People 3 Dec 2023

2 Introduction To assess the business prospect outlined in the case study, it is crucial to examine both the Net Present Value (NPV) and consider the impact of income tax and depreciation on cash flow. NPV serves as a key tool in capital budgeting and investment planning, offering insights into the profitability of a anticipated investment or project (Fernando, 2021). The data available includes details on revenues, expenses, tax rates, depreciation, and assumed discount rates. Utilizing this information, the NPV calculation for the WePROMOTE project opportunity can be conducted. NPV Calculation: The information provided in the case study is: Investment: $70,000 Annual cash inflows: $30,000 per year for 5 years Annual cash outflows excluding depreciation: $11,000 per year for 5 years Linear depreciation over 5 years: $70,000 / 5 years = $14,000 per year Discount rate: 6% Tax rate: 30% No salvage value is expected at the end of the 5-year term. With the provided details, we can compute the yearly cash outflow before tax, amounting to $30,000 - $11,000 = $19,000, from which an annual income tax of 30% or $5,700 is subtracted. Consequently, the annual cash inflow after tax is $19,000 - $5,700 = $13,300. We are aware that the equipment's cost is $70,000, and its usability is limited to 5 years with no salvage value afterward. The yearly depreciation, calculated on a straight-line basis, amounts to $70,000 / 5 = $14,000. Depreciation, being a non-cash tax-deductible expense

3 outflow, is taken into account in income tax calculations. Despite not involving an actual cash payment, it aids in reducing the taxable net income by being subtracted from the net income figure. This reduction contributes to lowering the overall taxable net income, consequently leading to a decrease in the income taxes paid. This tax-saving aspect of depreciation is referred to as the depreciation tax shield (Heisinger & Hoyle, 2012). To determine the net present value over the span of 5 years, the initial step is to ascertain the present value for each year (Hill, 2014). For each year, considering before-tax cash receipts at $13,300 and depreciation tax savings at $4,200, the total cash inflow (or outflow) amounts to $13,300 + $4,200 = $17,500. Employing the discount rate of 6%, the net present value for each year can be computed as outlined in the Excel sheet. The overall net present value for the entire project is then derived by summing up all the present values from year 0 to year 5. -$70,000 + $16,509.43 + $15,574.94 + $14,693.34 +$13,861.64 + $13,077.02 = $3,716.37.

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4 Results and Summary: Based on the calculations above, the project's net present value stands at a positive $3,716.37, considering a 6% discount rate and a 30% tax rate. This positive value indicates the project's profitability, leading me to recommend that WePROMOTE pursue this business opportunity. However, it's important to acknowledge that other factors, particularly qualitative considerations associated with undertaking such a project, should also be taken into account. The project holds potential benefits in establishing a market presence, boosting company reputation, and promoting the brand, especially given the custom-made mobile covers featuring client logos distributed at public events. The product's uniqueness, durability, attractiveness, and compatibility with a wide range of smartphones, coupled with the option for logo customization, present areas that WePROMOTE can leverage to enhance its overall business standing. In summary, the investment of the initial $70,000 is justified considering the projected cash inflow, calculated NPV, and the overall business opportunity presented by the project. Consequently, it is in the company's best interest to proceed with this investment. References Fernando, J. (2021, April 9). Net Present Value (NPV) Investopedia. https://www.investopedia.com/terms/n/npv.asp. Heisinger, K., & Hoyle, J.B. (2012). Accounting for managers. Saylor Foundation. https://resources.saylor.org/wwwresources/archived/site/textbooks/Managerial%20Accounting.p df Hill, R. A. (2014). Strategic financial management. Bookboon.com.

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