Reference no: EM132678743
University of Negros Occidental - Recoletos Elementary Department is considering the purchase of six school buses to transport students to and from school events. The initial cost of the buses is P3,000,000. The life of each bus is estimated to be five years, after which time the vehicles would have to be scrapped with no salvage value. The school's management team has derived the following estimates for annual revenues and cost for the next five years.
Year 1
Revenue 1,650,000.00
Driver's Cost 165,000.00
Repairs and Maintenance 40 000
Other Cost 650 000
Depreciation 600 000
Year 2
Revenue P1,650,000.00
Driver's Cost 175,000.00
Repairs and Maintenance 65 000
Other Cost 675 000
Depreciation 600 000
Year 3
Revenue 1,750,000.00
Driver's Cost 180 000
Repairs and Maintenance 75 000
Other Cost 700 000
Depreciation 600 000
Year 4
Revenue 1,900,000.00
Driver's Cost 190 000
Repairs and Maintenance 80 000
Other Cost 680 000
Depreciation 600 000
Year 5
Revenue 2,000,000.00
Driver's Cost 200 000
Repairs and Maintenance 90 000
Other Cost 710 000
Depreciation 600 000
- The buses would be purchased at the beginning of the project (i.e., in Year 0) and all revenues and expenditures shown in the table above would be incurred at the end of each relevant year.
- Because schools are exempt from taxes, the school's corporate tax rate is 0 percent. A financial consultant has advised the management that they should use a weighted average cost of capital (WACC) of 10.5 percent to evaluate this project.
Problem 1: Make a table showing the estimated net cash flows for each year of the project. Explain all steps involved in your calculation of the Year 1 estimated net cash flow.
Problem 2: Calculate the project's Net Present Value (NPV). Explain , all steps involved in the calculation process.
Problem 3: Calculate the project's Payback Period and the Discounted Payback Period. Explain, all steps involved in the calculation process.
Problem 4: Calculate the project's Internal Rate of Return (IRR). Explain, all steps involved in the calculation process.
Problem 5: Which of the evaluation techniques that you computed should the firm use to make its decision of whether or not to accept this project? Why? Is one of these techniques better than the others and if so, why?
Problem 6: Finally, what are some risk factors inherent in this capital budgeting analysis? That is, make a list of at least three items that could cause the outcome of this project to be substantially worse than management currently expects (as reflected in their revenue and cost estimates, WACC estimate, etc.). Fully explain each of the risk factors you identify.