Reference no: EM133340203
Capital Budgeting
PROBLEM 1: Capital Budgeting
Assume that you are the CFO at Methodist Hospital in San Antonio. The CEO has asked you to analyze two proposed capital investments: Project X and Project Y. Each project requires a net investment outlay of $10,000, and the cost of capital for each project is 12 percent. The project's expected net cash flows are as follows:
| Year |
Project X |
Project Y |
| 0 |
-$11,000 |
-$11,000 |
| 1 |
$7,000 |
$3,000 |
| 2 |
$3,000 |
$3,000 |
| 3 |
$3,000 |
$4,000 |
| 4 |
$1,000 |
$4,000 |
a. Calculate each project's payback period, net present value (NPV), and internal rate of return (IRR).
b. Which project (or projects) is financially acceptable? Explain your answer.
a. Complete the table below, solving for the project's cash flows, paybacks, NPVs (at 12 percent), and IRRs.
b. Which project (or projects) is financially acceptable? Explain your answer.
PROBLEM 2: Capital Budgeting
HCA is evaluating the bulk purchase of new Hill-Rom hospital beds for its Central & West Texas region. The purchase will cost $36,000,000 and the beds have an expected life of five years. The expected pretax salvage value after five years of use is $4,000,000. In total, the beds are expected to generate $9,000,000 in revenue in the first year of operations.
Maintenance costs are expected to be $200,000 during the first year of operation, while the increase in utilities will cost another $100,000 across the system in Year 1. The cost for additional expendable supplies is expected to average $250,000 during the first year. All costs and revenues, except depreciation, are expected to increase at a 2.8% inflation rate after the first year. The hospital's aggregae tax rate is 21.15%, and its corporate cost of capital is 8.4%.
The equipment falls into the MACRS five-year class for tax depreciation and hence is subject to the following depreciation allowances:
a. Estimate the project's net cash flows over its five-year estimated life.
b. What are the project's NPV and IRR? (Assume that the project has average risk.)
c. Based on the results of the analysis, should this project be approved?
a. Complete the table below, solving for the project's net cash flows over its five-year estimated life.
b. What are the project's NPV and IRR? (Assume that the project has average risk.)
c. Based on the results of the analysis, should this project be approved?
Project Risk Analysis
PROBLEM 1: Proj Risk Analysis
Parallon Business Solutions, a division of HCA that provides revenue cycle functions, is evaluating two different computer systems for handling provider claims. There are no incremental revenues attached to the projects, so the decision will be made on the basis of the present value of costs. Parallon's corporate cost of capital is 10 percent.
Here are the net cash flow estimates in thousands of dollars:
| Year |
System X |
System Y |
| 0 |
-$1,300 |
-$1,100 |
| 1 |
$825 |
$750 |
| 2 |
$825 |
$750 |
| 3 |
$825 |
$750 |
a. Assume initially that the systems both have average risk. Which one should be chosen?
b. Assume that System Y is judged to have high risk. Parallon accounts for differential risk by adjusting its corporate cost of capital up or down by 2 percentage points. Which system should be chosen?
PROBLEM 2: Proj Risk Analysis
Xenex Inc., a supplier of hospital room disinfection systems, has a cost of capital of 12 percent.
To fairly evaluate projects and adjust for risk, it adds or subtracts 2 percentage points to the discount rate.
Currently, two mutually exclusive projects are under consideration. Both have a cost of $200,000 and will last four years.
Neither project is projected to generate positive cash flows and thus both are evaluated on the basis of costs.
However, Project A is judged to be a riskier-than-average project but Project B is determined to a lower than average risk investment.
In which project should Xenex invest its capital?
Note: Disregard PROBLEM 2: under Project Risk Analysis.
Attachment:- Excel Workbook.rar