Essay - Wacc 1) We Will Assume that the Old Machine is...


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WACC

1) We will assume that the old machine is fully depreciated. This makes the tax burden on the disposal as $34,000. The depreciation expense on the new machine ***** reduce the ***** burden, and the cost savings are assumed to translate directly to profit, which will increase ***** tax *****. The net effect is an increase in ***** burden from the new mach*****e of $37,400 per year, ***** subtracts from ***** cost *****, giving a net ********** cash flow of $432,600. ***** net present value of the new machine *****refore becomes $1,715,925.02. The present cash flows are the outlay for the new machine, ***** proceeds from the disposal of ***** ***** machine and the tax on those proceeds. This totals $1,734,000. *****refore, the NPV ***** ***** purchase of the new machine is -$18,074.98. Theta Widgets should not purchase the new *****.

2) Capital budgeting decisions ***** complex. There are many variables that must be taken into consideration. Moreover, ***** information being used to make the decision is almost entirely based on estimates. The more accurate the inputs, the stronger the dec*****ion, but much of what goes in***** a capital budgeting decision is variable.

Inflation, for example, can have a signific*****nt impact on the outcome of ***** decision. For the most part, cost ***** capital reflects past conditions. *****re may be some element of future *****, but as soon as a variable such ***** inflation differs from the assumed rate of inflation, ***** figures changes. The cost of capital used to make the ***** has an assumed ***** of inflation built into it. If the rate of inflation increases, that cost of capital becomes obsolete. For this reason, companies should set a conserv*****tive hurdle ***** that assumes ***** adverse movement in the rate of inflation. Even in doing so, most companies will bear the risk of a sharp spike in inflation rates.

***** future ***** flows would, in theory, need to be discounted at a higher r*****e to reflect the change ***** inflation. This ***** adversely affect ***** ***** ***** ***** those cash flows. ***** in turn will reduce the present value of ***** flows, ***** can erode the positive net present ***** that was derived in order ***** make the investment decision in the first place. A firm will ideally ***** able to pass the inflation on to their customers in ***** to balance off the deteriorati***** in value of the cash flows.

***** ***** decisions ***** filled with uncertainty. There are several ways for a company to limit this uncertainty or build in safeguards against adverse consequences. The first is to get ***** best in*****mation possible prior to making an investment decision. The ***** used for future cash ***** are going to be estimates, but some ***** ***** better than others. The ***** the quality of the in*****mation in the first place, the more accurate your NPV calculations will be.

**********her way ***** deal with ***** is to make conservative estimates. A project ***** only has a positive

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