Question

1. Omar is the owner of a private school is considering the purchase of six school buses to transport students to and from school events. The life of each bus is estimated to be 3 years, after which time the vehicles would have to be scrapped with no salvage value. School management doesn’t have money recently; it could go to finance through bank totally or partially. The school’s revenue mainly comes from tuition fees. According to the previous year’s school made profit which encourage management to expand the revenue by purchasing buses.

Suppose that Mr. Omar has hired you as a consultant to help them make the decision.

Please draft an official memo to them with your analysis and recommendations.

Your submission should cover the following questions:

1.Briefly, summarize the key facts of the case and identify the problem being faced by

Mr. Omar. In other words, what is the decision that they need to make?

2.What are some approaches that can be used to solve this problem? What are some

various criteria or metrics that can be used to help make this decision?

3.What are the important factors the financial manager should consider before making

decision? Explain?Â

4. If the figures are not certain, how would you deal with this situation?

5.If the initial investment OMR 600,000 and the project is expected to generate cash

flow after adjustment OMR 250000, OMR 300000, OMR 200000 at the end of year

1,2 and 3 respectively. Is it wealthy to purchase the buses? explain

2. Discuss and explain what are the different methods as financial Manager could use for

evaluating projects? Why using one method than others

Answer 1

Key factor-

School is considering the purchase of six school buses to transport students to and from school event.

The life of each bus is estimated to be 3 years, after which time the vehicles would have to be scrapped with no salvage value

Problem-

School Management does not have money recently.

School Management should take finance facility.

2.The Investment Decision relates to the decision made by the top level management with respect to the amount of funds to be deployed in the investment opportunities. Simply, selecting the type of assets in which the funds will be invested by the school.

Criteria for making investment decisions

Creating Value for the Investor. Value is created for an investor if the investor earns more than the investment costs.

2 Non-discounted Cash Flow Techniques.

Payback Period.

Return on Investment.

Discounted Cash Flow Techniques.

1 Net Present Value.

.2 Profitability Index or Benefit-cost

3.

Factors the financial manager should consider before making decision

Best use for your money

The most important factor to consider if it is the right time for you to invest is to look at the best use of your money.

Cash flow Budget

The analysis of cash-flow budget which shows the flow of funds into and out of the company may affect capital investment decision in two ways.

First, the analysis may indicate that a company may acquire necessary cash to purchase the equipment not immediately but after say, one year, or it may show that the purchase of capital assets now may generate the demand for major capital additions after two years and such expenditure might clash with anticipated other expenditures which cannot be postponed.

Secondly, the cash flow budget shows the timing of cash flows for alternative investments and thus helps management in selecting the desired investment project.

Fiscal Incentives

Tax concessions either on new investment incomes or investment allowance allowed on new investment decisions, the method for allowing depreciation deduction allowance also influence new investment decisions.

4. If figures are not certain then take the estimated figure or Cash Flow or figure which is expected by same industry in same market condition.

5.

If the initial investment OMR 600,000 and the project is expected to generate cash

flow after adjustment OMR 250000, OMR 300000, OMR 200000 at the end of year

1,2 and 3 respectively. Is it wealthy to purchase the buses-

-600,0000+250000+300000+200000=OMR 150,000

Yes it is wealthy to purchase the buses as profit of OMR 150,000 will increase.

6.

Cost of capital refers to the opportunity cost of making a specific investment. It is the rate of return that could have been earned by putting the same money into a different investment with equal risk. Thus, the cost of capital is the rate of return required to persuade the investor to make a given investment.

Net present value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows over a period of time. NPV is used in capital budgeting and investment planning to analyze the profitability of a projected investment or project.

Payback Period The payback period determines the point in the project at which the investor gets her investment back. In other words, the payback period is the period at which the cash flow generated by the investment is equal to the cash invested in the project. All positive cash flows after that are excess earnings for the investor. The payback period is the oldest of the decision-making criteria. It is the easiest to compute, and has intuitive value: the longer the investor has to wait for the project to return the initial investment, the less lucrative the project.