Create an Excel spreadsheet in which you use capital budgeting tools including net present value (NPV), internal rate of return (IRR), payback period, and profitability index (PI) to determine the quality of 3 proposed investment projects, as well as an analysis of your computations and recommends the project that will bring the most value to the company. The analysis of the capital projects will need to be correctly computed and the resulting decisions rational.

Scenario

You work as a finance manager for Drill Tech, Inc., a mid-sized manufacturing company located in Minnesota. Three capital project requests were identified as potential projects for the company to pursue in the upcoming fiscal year. In the meeting to discuss capital projects, the director of finance (and your boss), Jennifer Davidson, gives you a synopsis of the projects along with this question: Which one of these projects will provide the most shareholder value to the company?

She also tells you that other than what is noted in each project scenario, all other costs will remain constant, and you should remember to only evaluate the incremental changes to cash flows.

The proposed projects for you to review are as follows.

Project A: Major Equipment Purchase

• A new major equipment purchase, which will cost $10 million; however, it is projected to reduce cost of sales by 5% per year for 8 years.
• The equipment is projected to be sold for salvage value estimated to be $500,000 at the end of year 8.
• Being a relatively safe investment, the required rate of return of the project is 8%.
• The equipment will be depreciated at a MACRS 7-year schedule.
• Annual sales for year 1 are projected at $20 million and should stay the same per year for 8 years.
• Before this project, cost of sales has been 60%.
• The marginal corporate tax rate is presumed to be 25%.

Project B: Expansion into Europe

• Expansion into Western Europe has a forecast to increase sales/revenues and cost of sales by 10% per year for 5 years.
• Annual sales for the previous year were $20 million.
• Start-up costs are projected to be $7 million and an upfront needed investment in net working capital of $1 million. The working capital amount will be recouped at the end of year 5.
• Because of the higher European tax rate, the marginal corporate tax rate is presumed to be 30%.
• Being a risky investment, the required rate of return of the project is 12%.

Project C: Marketing/Advertising Campaign

• A major new marketing/advertising campaign, which will cost $2 million per year and last 6 years.
• It is forecast that the campaign will increase sales/revenues and costs of sales by 15% per year.
• Annual sales for the previous year were $20 million.
• The marginal corporate tax rate is presumed to be 25%.
• Being a moderate risk investment, the required rate of return of the project is 10%.