Entrepreneurial Decision Making James Jones is an entrepreneur and founder of Ta
ID: 2528873 • Letter: E
Question
Entrepreneurial Decision Making
James Jones is an entrepreneur and founder of Tasty Cakes Bakery. During the last year, Tasty Cakes generated $40,000 in operating cash flows, paid $10,000 in capital expenditures (as it does almost every year), and paid $5,000 in dividends. Jones is interested in significantly expanding this year. To do so, he needs to spend $100,000 on equipment in addition to his normal capital expenditures. He believes that if he buys the equipment, his operating cash flows will surely increase by 25% and possibly could double. He has spoken with the bank, which has offered the following two installment note options: Option 1 is a two-year, 5% $100,000 installment note; and Option 2 is a six-year, 10% $100,000 installment note.
Discuss Tasty Cake's free cash flow. Identify the advantages and disadvantages of each option and recommend which option James should pursue.
Explanation / Answer
Working of all 3 options
As per calculation, Option 2 should be recommended
Calculation of Increase in Free Cash flows Option 1 Option 2 Increase in Cash Flow - Note received 1,00,000 1,00,000 Increase in Operating Cash Flow - 25% of 40,000 10000 10000 Sub - Total (A) 1,10,000 1,10,000 Principal Repayment 53763 22957 Interest Cost @ 5% and 10% respectively 5000 10000 Sub - Total (B) 58763 32957 Total Net Cash Flow (A-B) 51,237 77,043Related Questions
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