A private school is considering the purchase of six school buses to transport students to and from school events. The initial cost of the buses is $600,000. The life of each bus is estimated to be 5 years, after which time the vehicles would have to be scrapped with no salvage value. The school’s management team has derived the following estimates for annual revenues and cost for the next 5 years.
Year 1
Year 2
Year 3
Year 4
Year 5
Revenues
$330,000
$330,000
$350,000
$380,000
$400,000
Driver costs
$33,000
$35,000
$36,000
$38,000
$40,000
Repairs and maintenance
$8,000
$13,000
$15,000
$16,000
$18,000
Other costs
$130,000
$135,000
$140,000
$136,000
$142,000
Annual depreciation
$120,000
$120,000
$120,000
$120,000
$120,000
The buses would be purchased at the beginning of the project (i.e., in Year 0) and all revenues and expenditures shown in the table above would be incurred at the end of each relevant year.
Because schools are exempt from taxes, the school’s corporate tax rate is 0 percent. A business consultant has advised management that they should use a weighted average cost of capital (WACC) of 10.5% to evaluate this project. Net present value of $30,966.43.
Which of the three evaluation techniques that was computed (i.e., payback period, IRR and NPV), should the firm use to make its decision of whether or not to accept this project? (see attachment) Why did you choose this technique? Is one of these techniques better than the others and if so, why?
Finally, what are some risk factors inherent in this capital budgeting analysis? Make a list of at least three items that could cause the outcome of this project to be substantially worse than management currently expects (as reflected in their revenue and cost estimates, WACC estimate, etc.). Fully explain each of the risk factors you identify.
Length: 4-5 pages, not including title page and references; (You may wish to include an appendix to accommodate tables and figures.)
References: You are expected to provide at least three references for this assignment.
Your paper should demonstrate thoughtful consideration of the ideas and concepts presented in the course and provide new thoughts and insights relating directly to this topic
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