coda bus ans To elevious Houexileding Concerns of the Treasury Staff After a meeting on a...

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coda bus ans To elevious Houexileding Concerns of the Treasury Staff After a meeting on a different matter, Frank Greystock described his dilemmast Andrew Gowan, who worked as an analyst on Diamond Chemicals' Treasury staff. Gowan scanned Greystock's analysis, and pointed out: ... to .cash flows and discount rate need to be consistent in their assumptions about inflation. The 10 percent hurdle rate you're using is a nominal target rate of return. The Treasury staff thinks this impounds a long-term inflation expectation of 3 percent per year. Thus, Diamond Chemicals' real (that is, zero inflation) target rate of return is 7 percent. The conversation was interrupted before Greystock could gain a full understand- ing of Gowan's comment. For the time being, Greystock decided to continue to use a discount rate of 10 percent because it was the figure promoted in the latest edition agoaq stniby of Diamond Chemicals' capital-budgeting manual. initom noomolin-alm Jostumsm ni xham badd Evaluating Capital-Expenditure Proposals at Diamond Chemicals unismy logo In submitting a project for senior management's approval, the project's initiators had noid yd bone to identify it as belonging to one of four possible categories: (1) new product or mar- ket, (2) product or market extension, (3) engineering efficiency, or (4) safety or envi- ronment. The first three categories of proposals were subject to a system of four rado assqon performance "hurdles," of which at least three had to be met for the proposal to be aslov sine considered. The Merseyside project would be in the engineering-efficiency category. o saifood br Impact on earnings per share: For engineering-efficiency projects, the contribu- oques addin tion to net income from contemplated projects had to be positive. This criterion was calculated as the average annual earnings per share (EPS) contribution of the project over its entire economic life, using the number of outstanding shares at the most recent fiscal year-end (FYE) as the basis for the calculation. (At FYE2000, Diamond Chemicals had 92,891,240 shares outstanding.) 1. 1205 i onil grit ni zid (202 JUSTIN 1.000,023-257 2. Payback: This criterion was defined as the number of years necessary for free cash oxo zlynnqnos flow of the project to amortize the initial project outlay completely. For engineering- sojong odi morl or Restorove efficiency projects, the maximum payback period was six years. 1099 no 23. Discounted cash flow: DCF was defined as the present value of future cash flows of the project (at the hurdle rate of 10 percent for engineering-efficiency proposals) less the initial investment outlay. This net present value of free cash flows had to be positive. 200000097 smil snov 4. Internal rate of return: IRR was defined as being the discount rate at which the gene toinen present value of future free cash flows just equaled the initial outlay-in other words, the rate at which the NPV was zero. The IRR of engineering-efficiency projects had to be greater than 10 paizuddi percent. anointer the market would Conclusion VORST botolin Morris wanted to review Greystock's analysis in detail and settle the questions sur- rounding the tank cars and the potential loss of business volume at Rotterdam. As Scanned with CamScanner coda bus ans To elevious Houexileding Concerns of the Treasury Staff After a meeting on a different matter, Frank Greystock described his dilemmast Andrew Gowan, who worked as an analyst on Diamond Chemicals' Treasury staff. Gowan scanned Greystock's analysis, and pointed out: ... to .cash flows and discount rate need to be consistent in their assumptions about inflation. The 10 percent hurdle rate you're using is a nominal target rate of return. The Treasury staff thinks this impounds a long-term inflation expectation of 3 percent per year. Thus, Diamond Chemicals' real (that is, zero inflation) target rate of return is 7 percent. The conversation was interrupted before Greystock could gain a full understand- ing of Gowan's comment. For the time being, Greystock decided to continue to use a discount rate of 10 percent because it was the figure promoted in the latest edition agoaq stniby of Diamond Chemicals' capital-budgeting manual. initom noomolin-alm Jostumsm ni xham badd Evaluating Capital-Expenditure Proposals at Diamond Chemicals unismy logo In submitting a project for senior management's approval, the project's initiators had noid yd bone to identify it as belonging to one of four possible categories: (1) new product or mar- ket, (2) product or market extension, (3) engineering efficiency, or (4) safety or envi- ronment. The first three categories of proposals were subject to a system of four rado assqon performance "hurdles," of which at least three had to be met for the proposal to be aslov sine considered. The Merseyside project would be in the engineering-efficiency category. o saifood br Impact on earnings per share: For engineering-efficiency projects, the contribu- oques addin tion to net income from contemplated projects had to be positive. This criterion was calculated as the average annual earnings per share (EPS) contribution of the project over its entire economic life, using the number of outstanding shares at the most recent fiscal year-end (FYE) as the basis for the calculation. (At FYE2000, Diamond Chemicals had 92,891,240 shares outstanding.) 1. 1205 i onil grit ni zid (202 JUSTIN 1.000,023-257 2. Payback: This criterion was defined as the number of years necessary for free cash oxo zlynnqnos flow of the project to amortize the initial project outlay completely. For engineering- sojong odi morl or Restorove efficiency projects, the maximum payback period was six years. 1099 no 23. Discounted cash flow: DCF was defined as the present value of future cash flows of the project (at the hurdle rate of 10 percent for engineering-efficiency proposals) less the initial investment outlay. This net present value of free cash flows had to be positive. 200000097 smil snov 4. Internal rate of return: IRR was defined as being the discount rate at which the gene toinen present value of future free cash flows just equaled the initial outlay-in other words, the rate at which the NPV was zero. The IRR of engineering-efficiency projects had to be greater than 10 paizuddi percent. anointer the market would Conclusion VORST botolin Morris wanted to review Greystock's analysis in detail and settle the questions sur- rounding the tank cars and the potential loss of business volume at Rotterdam. As Scanned with CamScanner