Assignment:
The President of EEC recently called a meeting to announce that one of the firm's largest suppliers of component parts has approached EEC about a possible purchase of the supplier. The President has requested that you and your staff analyze the feasibility of acquiring this supplier. Discuss the following:
- What information is needed to analyze this investment opportunity?
- What will be your decision-making process?
- All future costs are relevant in decision making. Do you agree? Why?
- Capital budgeting decisions fall into 2 broad categories: screening decisions and preference decisions. Discuss this.
- Which do you think EEC should use-screening decisions or preference decisions? Why?
Based on the following information, calculate net present value (NPV), internal rate of return (IRR), and payback for the investment opportunity: (750 to 1,000 words)
- EEC expects to save $500,000 per year for the next 10 years by purchasing the supplier.
- EEC's cost of capital is 14%.
- EEC believes it can purchase the supplier for $2 million.
Answer the following:
- Based on your calculations, should EEC acquire the supplier? Why or why not?
- Which of the techniques (NPV, IRR, or payback period) is the most useful tool to use? Why?
- Which of the techniques (NPV, IRR, or payback period) is the least useful tool to use? Why?
- Would your answer be the same if EEC's cost of capital were 25%? Why or why not?
- Would your answer be the same if EEC did not save $500,000 per year as anticipated?
- What would be the least amount of savings that would make this investment attractive to EEC?
- Given this scenario, what is the most EEC would be willing to pay for the supplier?
Prepare a memo to the President of EEC that details your findings and shows the effects if any of the following situations are true: (1,500 to 2,000 words)
- EEC's cost of capital increases.
- The expected savings are less than $500,000 per year.
- EEC must pay more than $2 million for the supplier.