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


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WACC

*****) 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 will reduce the tax burden, and the cost savings are assumed to translate directly to profit, which ***** increase the tax burden. The net effect is an increase in tax burden from the ***** machine of $37,400 per year, which subtracts from the cost savings, giving a net ********** cash flow of $432,600. ***** net present value of ***** new ***** therefore becomes $1,715,925.02. The present cash *****s are the outlay for the new machine, the proceeds from the ***** of ***** old ***** and the tax ***** those proceeds. This totals $1,734,000. *****refore, the NPV ***** the purchase of the new machine is -$18,074.98. Theta Widgets should not purchase ***** new machine.

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

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

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

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

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

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