Case Study for Investment Analysis: Plant Expansion
Pat Gray, the Operation Manager at ABC Company, a producer of widgets, has analyzed sales projections for the next several years and has determined the only way production can keep up with sales is to build a new plant. Accordingly, Pat is in the process of preparing a Capital Investment Analysis for presentation to the Executive Team. The company competes in the food processing industry.
Here are the facts:
1. In the year just ended annual sales volume and plant capacity were:
- Sales Volume: 500,000 Units
- Plant Capacity: 600,000 Units
2. Due to actions included in the strategic plan, sales are projected to increase at 20% per year for each of the next 5 years.
3. Capital Spending on a new 650,000 units/year plant will cost:
- $10.00 per unit for Buildings with a 5-year useful life
- $5.00 per unit for Equipment with a 5-year useful life
4. If the project is approved in the next month the plant will be operating at the start of next year.
5. Working capital required for equals:
- $1.00 for receivables per unit sold
- $1.50 for inventory per unit sold
- ($.50) for payables per unit sold
6. Gross Margins are $10.00 per unit on the original and incremental production
7. Operating Costs are $1.50 per unit on the original and incremental production
8. The plant’s Terminal Value after 5 years is estimated to be $1,772,000
9. The company is currently capitalized as follows:
- $20,000,000 Equity with an implied equity rate of return of 20%
- $40,000,000 Debt with an average interest rate of 5.0 % with available additional debt at the same rate for this project.
- The company uses its after-tax cost of debt to calculate its Weighted Average Cost of Capital
10. The company’s marginal tax rate is 25%
Your assignment is to prepare the Capital Investment Analysis for Pat assuming that after 5 years there is no production and no residual value for the new plant. Then write a recommendation on whether to undertake the project or not.
You can access the Capital Investment Request Form here.
To request the completed Case Study Capital Investment Request Form email Steve.Rosvold@CFO.University with “Please send me the completed Case Study CIRF”
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