Caledonia Products Integrative Problem
August 19, 2012
1. Why should Caledonia focus on project free cash flows as opposed to the accounting profits earned by the project when analyzing whether to undertake the project?
It is important that Caledonia Company should focus on the free cash flows instead of the accounting profits. With the free cash flows that the company receives they can reinvest. To accurately analyze the timing of the benefit or cost we can examine the cash flows. The only cash flows that the company should be interested in are the after-tax basis because these are the flows that are available to shareholders. When we look at the company as a whole, ...view middle of the document...
These differ because you must estimate the tax based on the company’s overall profit and not deduct interest expense. Depreciation is the main component of this whole expense flow chart. Operating as non-cash expense it’s then subtracted before the tax calculation, which later is added into the operating cash flow.
3. What is the project’s initial outlay?
Net Working Capital
Initial Working Capital Year 1 2 3 4 5
Revenue $21,000,000 $36,000,000 $42,000,000 $24,000,000 $15,600,000
Net Working Capital $2,100,000 $3,600,000 $4,200,000 $2,400,000 $1,560,000
Change In Working Capital $2,000,000 $1,500,000 $600,000 -$1,800,000 -$2,400,000
4. Sketch out a cash flow diagram for this project.
5. What is the project’s net present value?
6. What is its internal rate of return?
7. Should the project be accepted? Why or why not?
8. Describe factors Caledonia must consider if it were to lease versus buying.
Determining whether to lease or purchase equipment for the company, they must first look at many different aspects. First, look at the differences between leasing and owning equipment....