Question

In: Accounting

You are part of a team that is determining whether your company should undertake a new...

You are part of a team that is determining whether your company should undertake a new project. Your team calculated the NPV of the new project using the cost of capital (weighted average cost of capital) to discount the future cash flows. However, the Chief Financial Officer noticed that your team excluded the interest payments in estimating the future cash flows.

Discussion Questions:

  1. Why did your team exclude interest payments in the estimation of future cash flows of the new project? Explain.
  1. What method should your team use to evaluate the feasibility of the new project if the Chief Financial officer insists on including interest payments? Be detailed in your response.

Solutions

Expert Solution

Question 1

We have not considered the finance costs because we are discounting the cash flows at weighted average cost of capital. Since Weighted average cost of capital includes the impact of such interest expenses and be recovered from there in , we need not to consider interest expenses. When we are using Weighted average cost of capital , it means we are recovering the cost of investment from the perspective of both Equity holders as well as Debt instrument holders. That is why , we have not considered the interest expenses in cash flows.

Question 2

If we were to consider interest payments as an outflow , then we should discount such future cash flows at cost of equity ( which is relatively more than the Weighted average cost of capital) . The reason behind this is that if we discount at cost of equity , we have to consider only the return that will be available to Equity shareholders. We need to consider the interest payments in cash flows but not in the recovery( ie., rate of discounting).

Hope this is clear and ALL THE BEST


Related Solutions

Rachel is part of a management team that is considering whether her company should offer some important new services
Rachel is part of a management team that is considering whether her company should offer some important new services that would broaden its business by appealing to a completely new market segment. Rachel's management team is involved in:A tactical planning.B operational planning.C strategic planning.D contingency planning.
A medical research team is interested in determining whether a new drug has an effect on...
A medical research team is interested in determining whether a new drug has an effect on creatine kinase (CK), which is often assayed in blood tests as an indicator of myocardial infarction. A random selection of 20 patients from a pool of possible subjects is selected, and each subject is given the medication. The subjects’ CK levels are observed initially, after 3 weeks, and again after 6 weeks. The purpose is to study the CK levels over time. Here is...
Your role is to imagine that you are part of a team within a company that...
Your role is to imagine that you are part of a team within a company that is presenting to a group of colleagues moving to one of your international offices. You will be giving an overview of what the employees should know in order to live, work and engage in a culturally appropriate way in the international host country(India). what your colleagues would need to know to work and live in another culture. such as General information about the host...
You are part of a team responsible for designing an assessment to determine whether or not...
You are part of a team responsible for designing an assessment to determine whether or not your company’s information security controls are in compliance and to identify any necessary improvements or adjustments. Select two of the aspects listed below and discuss the importance of each in establishing a successful security metrics program. Give specific examples. What problems/issues might your company face if those aspects are not handled appropriately? Identifying stakeholders Defining metrics program goals and objectives Deciding which metrics to...
You are part of the water supply engineering team of your council. Your team is working...
You are part of the water supply engineering team of your council. Your team is working on a certain part of cast iron piping of a water distribution system involving a parallel section. Both parallel pipes have a diameter of 30 cm, and the flow is fully turbulent. One of the branches (pipe A) is 1000 m long while the other branch (pipe B) is 3000 m long. If the flow rate through pipe A is 0.4 m3/s, determine the...
Think of a team you have been a part of and discuss how your team was...
Think of a team you have been a part of and discuss how your team was evaluated and rewarded for its successes? Was there a focus on evaluating the individual? The team as a whole? Both? Discuss why you think the chosen reward was or was not motivational to the team? If you were the manager or leader of that team, what would your chosen evaluation and reward methods have been? Explain why you would've done what you're proposing.
Assume that you are part of a development team that is working on a new warehouse...
Assume that you are part of a development team that is working on a new warehouse management system. You have the task of investigating software packages that are available through ASPs. Using the World Wide Web, identify at least two potential sources of such software. What are the pros and cons of this approach to obtaining a software package? Write in complete sentences. The answer may not exceed 100 words.
As a toxicologist, you are given the assignment of determining whether a new chemical is capable...
As a toxicologist, you are given the assignment of determining whether a new chemical is capable of producing dermal sensitization. Explain how you would test for this. Include in your explanation the model/test system you would use and a brief description of how the test is run and interpreted. Hint: You will need to use resources outside the textbook to answer this. There are many standardized protocols that will be easy to find. Please include in your answer why you...
You are considering adding a new security to your portfolio. To decide whether you should add...
You are considering adding a new security to your portfolio. To decide whether you should add the security, you need to know the security's: A. Expected return and variance only B. Expected return only C. Expected return, variance, and covariance D. Expected return and covariance only
You are required to undertake a further review of the company and required to undertake the...
You are required to undertake a further review of the company and required to undertake the following: ? Review the following aspects of financial delegations and accountabilities within the company and determine their compliance with internal control procedures - Expenditure and / or investment approvals - Corporate governance requirements - Loan and lending approvals - Sign off authorities ? Determine timeframes taken to complete and release reports such as operating and cash flow statements - Are these completed within agreed-upon...
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT