Case 20: Aurora Textile Company Essay example

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Case 20: Aurora Textile Company Summary: In early 2003, Michael, CFO of Aurora Textile Company, is deciding whether or not to install a new machine called Zinser 351 in order to save the declined sales and increase its competitive force. In deciding whether or not to invest Zinser 351, it is important to get the NPV and the payback period. To get the NPV and the payback period, we firstly need to forecast the future cash flows that the new machine will generate. We found the ten-year NPV to be \$3,171,551 based on the FCFs that we forecast. Also, we use the payback period to analyze the acceptance of this project. We found that the discounted payback period is 5.69, which is less than the arbitrary cutoff point of 7.87. Based on our …show more content…

Our calculations yielded a NPV of \$3,171,551 as we use the hurdle rate of 10%. In conclusion, the NPV for the long-term forecasts is positive so we should accept to install the Zinser 351. Moreover, after predicting the next ten-year discounted free cash flows, we were able to calculate the discounted payback period of 5.69, comparing with the arbitrary cut off point 7.87. For the arbitrary cut off point, we use the average return on equity (net income/total equity) of the past 4 years, which is -12.702%, because it is more accurate and consistent than using the ROE of 2002. Then, we assume that all the equity leaves the company at 12.702%per year. Hence, the company can maintain operations for 7.87 years (1/12.702% = 7.87). Ultimately, if the Zinser 351’s payback period is more than 7.87 years, the company will go bankrupt. According to the spreadsheet, we are able to report that our payback period, 5.69, is less than 7.87 and that we should accept to install Zinser 351. On the other hand, there are some issues of concern that we need to address if we use Zinser 351. First of all, the sale price will jump from \$5 to \$10 by using Zinser 351. This increase in price needs to be countered, so, we need to face the global competition from those foreign textile companies with lower costs. According to our spreadsheet, we can see the sales with Zinser is larger than the sales without Zinser, whereas the COGS with Zinser is lower than without