The board members of Felicia & Fred are strategically evaluating the prospects o

ID: 2756060 • Letter: T

Question

The board members of Felicia & Fred are strategically evaluating the prospects of fulfilling increasing demand for its products and reaching new consumers. You have recently evaluated the expansion of manufacturing facilities for Felicia & Fred, entailing two alternative projects: customizing and refurbishing a large former mill building; versus building a new facility on the west coast on property already owned by the firm. Below is a table summarizing your findings: Project Strategy NPV IRR Discounted Payback Refurbish $450,000 14% 4.5 years Build New $350,000 16% 4 years The company’s WACC is currently 10%.

Question 1 Which of the project strategy alternatives from the table above should be chosen by the company? Which decision rule should be the basis of decision making when the outcomes conflict?

Question 2 With the refurbish option due to the nature of the project the firm would be required to outlay capital investments in year 0 and also in year 3. How does the delayed investment impact the project? Consider the table above; which project strategy needs to be reconsidered, why? What can be done to overcome the problem?

Question 3 Felicia and Fred learn that the previous analysts in their jobs position with the firm preferred to rely on discounted payback as an approach to value projects. What is this and should this affect how they proceed with their analysis?

Question 4 Felicia and Fred aside for a moment. If any students have an example from their professional experience that is directly applicable to the concepts of project valuation and investment decision rules please feel free to share with us some of the insights you have observed and learned relative to this topic.

Explanation / Answer

Project Strategy

first alternative

Second alternative

NPV

$450,000

$350,000

IRR

14%

16%

Discounted Payback

4.5 years

4 years

Option 1 Second alternative from the table above should be chosen by the company.

IRR of second alternative is higher, discounted payback period is less in second alternative which is better than first alternative. and building a new facility on the west coast on property already owned by the firm

If NPV approach is considered then, first alternative should be considered as first alternative have more NPV than second alternative.

Option 2. If firm would be required to outlay capital investments in year 0 and also in year 3, the delayed investment impact on the NPV and discounted payback period of the firm. If Reconsider the project strategy first alternative should be considered

Option 3. Discounted payback period refers to the period within which the present value of cash inflows completely recover the present value of the cash outflows. If firm preferred to rely on discounted payback approach to value projects then project having discounted payback period within standard discounted PBP will be considered. In above table second alternative should be considered