Captial Budget Recommendations
Category : Articles
Running Head: CAPITAL BUDGET RECOMMENDATIONS
Capital Budget Recommendations
February 21, 2011
Capital Budget Recommendations
With the business world constantly changing and growing, all businesses have to expand and grow or risk failure. Guillermo Furniture, owned by Guillermo Navallez, is located in the beautiful vacation spot of Sonora, Mexico. The company is also one of North America??™s largest furniture manufacturers because it is located near a good supply of timber that the company uses to make their many different tables and chares. In order for Guillermo Navaliez to continue to have a profitable business in the future, he best options is to consider the Present Value (PV), Net Present Value (NPV), and the Internal Rate of Return (IRR) to see the best options that are available for the his company??™s future.
When Guillermo Navaliez first started his company, his passion was to create variety of tables and chairs that use the good supply of timber from the local area around Sonora. However, in the late 1990s the economy went through a growth sprit. Tourism took over because of the beautiful view, inexpensive housing, the addition of an airport, and the new companies moving in which used new technology. This brought many complications for Guillermo??™s Furniture Company. Since he was using his own hands to create his product for the uniqueness of his product, but this became an issue for competition with the new companies that moved in. The new companies use computer controlled laser lathes to create precise cuts and seem to be less cost-effective.
The Present Value (PV) is, ???an Excel spreadsheet offers a variety of financial functions, one of which converts a future value annuity into its present value equivalent. This present value function uses the syntax PV(rate, nper, pmt) in which rate is the desired rate of return, nper is the number of periods, and pmt is the amount of the payment (periodic cash inflow)??? (Edmond, et. al., 2007, p. 1153). Currently, for Guillermo??™s company??™s PV mid-grade production is at $2,585.00 compared to the Hi-Tech at $3,878.00, with a $1,293 production, thus making the difference to not look good. Also, the price per unit for mid-grade is at $509, and for high-end is $879 whereas for Hi-Tech, at mid-grade is $459, and high-end is $789. Here, the difference is $50 for mid-grade, and $90 for high-end. This means that if Guillermo Furniture is losing a great deal of money per year if they look at the differences between the production and the price per unit compared to the new companies.
The Net Present Value (NPV) is, ???subtracting the cost of the investment from the present value of the future cash inflows determines the net present value of the investment opportunity??? (Edmond, et. al., 2007, p. 1156). There are two different kinds of NPVs. The first is a positive NPV, and is where the ???net present value indicates the investment will yield a rate of return higher than 12 percent??? (Edmond, et. al., 2007, p. 1156). The second is a negative NPV, and is where the ???net present value means the return is less than 12 percent??? (Edmond, et. al., 2007, p. 1156). After looking at the data spread sheet, a substantial difference is evident between the current net incomes before taxes of $46,369, and the HI-Tech net income before taxes of $214,110. At the same time, the net income only seems to increase, which could give the opportunity to be profitable if the company could combine the net income before taxes; $260,479.
The Internal Rate of Return (IRR) is, ???the rate at which the present value of cash inflows equals the cash outflows. It is the rate that will produce a zero net present value??? (Edmond, et. al., 2007, p. 1156) Again, after looking at the data spread sheet Guillermo??™s company would be able to invest $26,894 if the net income expenses of $19,475 is subtracted from the net income before taxes of $46,369. However, when the company decides to invest a large amount, the company would only increase the earnings.
Once Guillermo considers the present value, net present value, and internal rate of revenue, then it is critical to look at the break even analysis (BEA). BEA, ???is based on categorizing production costs between those which are ???variable??™ (costs that change when the production output changes) and those that are ???fixed??™ (costs not directly related to the volume of production)??? (Bushman, 2010, para 1). Also, BEA includes revenue and expenses for each product. The expenses that Guillermo have to include are fixed costs, variable costs, or mixed (fixed/variable) costs. The company??™s fixed costs would include rent, depreciation, or regular maintenance of machinery. At the same time, there would be some variable consistent of costs including gas, electricity, and material.
Therefore, Guillermo Navaliez best option would be to merge with a new company. There is always a possibility of risks, but it will be the most beneficial for the company in the end. With a merger Guillermo would be able to provide severance packages for all employees. Additionally, Guillermo may not have complete control, but he possibly will have a say on the negotiations of a contract. For example, Guillermo Navaliez can possibly be able to share with the new company his signature furniture coating, and use his leverage on North American dealers to have some power in order to keep some leverage with the merge.
With the business world constantly changing and growing, all businesses have to change and grow as well. Just because new companies are moving into the area where Guillermo Navaliez has his furniture business, it does not necessarily mean that Guillermo will not be able to continue running his business. Yes, as he stands currently, he will does not have a bright future, but if here were to take the risk of merging with a new company, he would be able to continue a profitable future while making his business and lifestyle better.
Bushman, M. (2010). introduction to break-even analysis. Tutor2U. Retrieved on February 18,2011, from http://tutor2u.net/business/production/break_even.htm
Edmonds., T. P. et al (2007). Fundamental Financial & Managerial Accounting Concepts. New York: McGraw Hill
This week, there were several recommendations made dealing with CAATs and audit productivity software. The first recommendation was that Kudler Fine Foods needs CAATs to validate the four previously designed processes and the integrity of the data within these processes. In order to validate the four processes, three techniques were mentioned: test data, an integrated test facility (ITF), and parallel simulation. Test data is where an auditor can verify the integrity of the four processes by creating a fictional set of data, and then the results are compared to the expected results. Integrated test facility is similar to test data, but the auditor will create a fake employee and data to compare to the expected results. Finally, parallel simulation is when auditors use ???audit software to reproduce a module of an application??? (Hunton, Bryant, & Bagranoff, 2004, p. 189). In order to validate the integrity of the data within the four designed process, several different techniques were mentioned: ???data extraction and analysis, digital analysis, data query models, continual audity techniques, ACL batches, and embedded audit models??? (Hunton, Bryant, & Bagranoff, 2004, p. 189). When auditors perform these techniques, they are able to prove that data was imported properly into Audit Command Language (ACL), and to expose any anomalies that were either unintentional or intentional (Hunton, Bryant, & Bagranoff, 2004).
The second recommendation that was recommended to Kudler Fine Foods is to use audit productivity software: electronic working papers, time and billing software, groupware, reference libraries, and document management. Just like CAATs, audit productivity software analyzes, verifies, and calculates data during the auditing of the four designed processes. Also, audit productivity software will help to find out if the data has been compromised.