Principles of Finance
Final Project
PowerCo
Instructor:
Date Submitted:
The purpose of the following analysis is to determine whether PowerCo, a medium sized power company in the southeast United States should build a new generator. It is the belief of PowerCo that demand for electricity will significantly increase over the next 10-12 years. In order to meet this demand, the investment in a new generator needs to be reviewed. PowerCo’s Treasury department has prepared financial projections to facilitate the analysis of the investment. This information will be used for the analysis in order to provide a recommendation of whether PowerCo should build or not build the new generator.
The Present Value of the expected
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It is unclear as to how the estimated cash flows were determined and what factors were reviewed to create these estimates. There is definitely risk associated with the initial investment in terms of build time. It is completely plausible that it could take more than 2 years to complete construction of the generator which could also skew the overall Net Present Value. An additional risk to be considered would be the length of functionality of the generator. The Treasure department believes the generator could function for more than 10 years, and but based their projections on only 10 years, but what if the generator does not make it to the full 10 years? Changes to any of these risk factors would detrimentally change the calculation of the overall Net Present Value, possibly equating to a negative Net Present Value.
Based upon the above analysis alone, it would be my recommendation for PowerCo to build the new generator. The basis of this recommendation is due to the positive $89,000 overall Net Present Value which according to capital budgeting NPV acceptance or rejection criteria says to accept. Costs will not only be covered, but the value of the firm will increase, a positive for investors. It is my belief though that with such a low Net Present Value, PowerCo should review the overall plans for this investment to see if there is anything they can do to increase the Net Present Value to make it a
The relatively well posed project with promises of great future pay offs must be examined closely nevertheless to determine its true profitability. As such, the Super Project’s NPV must be calculated, however before we proceed we must acknowledge the relevant cash flows. The project incurred an expense of testing the market. This expense, however, must not be included in our cash flow analysis because it can be considered a sunk cost. This expense is required for ‘taking a temperature’ of the market and will not be recovered. Other sources of cash flow include:
The third scenario was ignoring the option to invest in the second-generation project and selling the equipment in year 2. We evaluated this option as a put option. First, we calculated the probabilities for going up and down based on the assumption of a risk neutral word. As a result, the probability of going upward is calculated as 0.3375 and downward probability is 0.6625. In order to determine the present value of all the sequence cash flow at the end of year 2, we calculated the upside change rate and downside change rate as 64.87% and -39.35%, respectfully. The next step is to analyze the option value by using the “Binomial Tree” method. In order to determine the present value of all the subsequence cash flow at the end of year 2, we calculated the cash flow at each node on the tree, until 2006. We discounted all the cash flow at the risk free rate at 10%. The End of Year NPV of all the subsequence cash flow at Year 2 is calculated as $7,571,752, and the selling price of the equipment at end of 2 is $4,000,000, which is the salvage value. We found the NPV of selling the machine at end of Year 2 to be -$2,951,861 as of Year 0, which is negative. The APV of the project after adding the option turned out to be -$6,321,932. This negative APV suggest that the
“When AES undertook primarily domestic contract generation projects where the risk of changes to input and output prices was minimal, a project finance framework was employed.”
Since the start of South Africa’s mass electricity supply programme in 1994, the country has continued to rely on coal as its primary energy resource. Today, with the export demand for our coal, it has put a pressure on energy supply, thus resulting in high price cost of electricity. Despite Eskom’s efforts to rectify the situation by building new coal plants, the projects have been on overload with construction and engineering problems as well as transgression, with the power utility receiving integration from government as well as a suspect of $3-billion loan from the World Bank for its Medupi plant. Consumers now bear the brunt of the crisis with an increase in tariffs to compensate for Eskom’s bills and cost problems which are much higher than the original predictions.
Thus, by year three the company will be making a profit off the investment as year three is 86.73 million profit by 55.35 cost giving the company a 31.38 million dollar surplus. Generally, a period of payback of three year or less is acceptable (Reference Entry) causing this project to be viable based off the payback analysis. Although, these calculations are flawed. The reason for this is because the time value of money is not taken into effect when calculating payback periods which is where IRR can further assist in a more realistic financial picture (Reference Entry).
The global power generation industry went into dip in 2009, but recovery has been swift and is set to continue towards 2017. According to MarketLine, the global power generation industry is expected to have a value of approximately $1,747.3 million in 2014, an increase of 7.5% over 2013. MarketLine anticipates that the industry growth will accelerate further and reach a value of approximately $2,103.8 million by the end of 2017, an increase of 20.4% over 2014.
In January 2003, Michael Pogonowski, the chief financial officer of Aurora Textile Company, was questioning whether the company should install a new ring-spinning machine, the Zinser 351, in the Hunter production facility. This new machine has ability to produce a finer-quality yarn that would be used for higher-quality and higher-margin products. In deciding whether or not to invest this new machine, NPV and the payback period are critical factors. Firstly, we need to forecast the cash flows that the Zinser 351 will generate in the future. After calculation, the ten-year NPV will be $3, 172,582. Secondly, we use the payback period to analyze the acceptance of this project. Based on this analysis,
1. Two commonly used methods of financial analysis are payback and present value. Payback determines the length of time for an investment to return its original cost (1). Using the assumptions stated below the payback of the Jiminy Nick wind turbine with a cost of about $3.3 million would return the investment in about four years time. Net present value summarizes the initial cost of an investment, the estimated annual cash flows, and expected salvage value, taking into account the time value of money (1). A NPV calculation for the scenario SED is reviewing equals $7,697,286 minus the investment costs of $3,318,000 totaling $4,379,286.
The machine will have a depreciation of $140,000 for the first five years; this is determined by dividing the initial investment by five. The old machine will be sold in 2010 for $25,000 which is below the current book value of $36,000. This is why there is a capital gain of $3,850 that will add to the incremental savings plus the depreciation for that year. The new sheeter will be sold at the end of the last year for $120,000 which will be taxed at 35; this is why a cost of $42,000 appears for the last cash flow (Exhibit 1). The NPV is a positive $1,063,567 and the IRR is 36%, this shows that the project will add value to the company along with having a great return. The payback period for the project is 2.45…Using the growth rate of 3%, the sales are projected to be nearly doubled from 2009 with the new sheeter. However, Pitts believes that he would not be surprised to see them increase by 7% or
The present value of the net incremental cash flows, totaling $5,740K, is added to the present value of the Capital Cost Allowance (CCA) tax shield, provided by the Plant and Equipment of $599K, to arrive at the project’s NPV of $6,339K. (Please refer to Exhibit 4 and 5 for assumptions and detailed NPV calculations.) This high positive NPV means that the project will add a significant amount of value to FMI. In addition, using the incremental cash flows (excluding CCA) generated by the NPV calculation, we calculated the project’s IRR to be 28%. This means that the project will generate a higher rate of return than the company’s cost of capital of 10.05%. This is also a positive indication that the company should undertake the project.
Viento Funding II, Inc. (“Viento” or the “Borrower”) owns controlling interest in a portfolio of three operating wind power generating plants (the “Projects”) located in Nebraska, New Mexico, and Texas. The Projects have an aggregate net capacity of 361 MW and achieved COD between December 2005 and April 2009. The Projects are fully contracted under three Power Purchase Agreements (PPAs). Each of the PPAs has a 20-year term with the earliest expiring in December 2025. The energy off-takers are Southwestern Public Service Company (“SPSC”) (A-/Baa1/BBB; SFS Equivalent 4+) and Nebraska Public Power District (“NPPD”) (A+/A1/A; SFS Equivalent 3+).
As a world’s largest producer of frozen chips which is opened by the McCain family in New Brunswick, Canada in 1957, McCain Foods is growing rapidly and became a market leader after entering UK market. To maintain a competitive advantage, McCain Foods insist continuous innovation by investing in new technologies to reduce costs and meet customer demand. McCain Foods is a major user of energy for the production process; As a result, McCain Foods decide to build a wind turbine system which will provide renewable energy to reduce electricity costs. However, there are many investment appraisal techniques for a company to assess that if a project is worth doing and making profits, such as Payback Period (PP), Net Present value (NPV), Internal Rate of Return (IRR), and Average Rate of Return (ARR). In this report we will first provide an academic background for PP followed by the analysis of
As aforediscussed, many authors agree that capital utilization play an important role in defining business viability; however there is a lack of assessment methodologies for making such assessment possible on the context of assessing Renewable Energy Projects. In view of that, and in order to tackle this difficulty, a generic assessment model has been presented on Chapter three Within the context of studying Renewable Energy Projects, this section provides an application of the generic model as to provide a glance on the insights, or gains in knowledge that can be achieved from the exploration of capital.
This major review afforded stakeholders the opportunity to evaluate the methodology, inputs to the existing model, incorporate Feed-In Tariffs (FITs) for renewable energy (wind, biomass, solar and small hydro) and develop tariffs for coal-fired generators. Some of the assumptions reviewed included: Available generation capacity, Forecast of electricity demand, Expansion of the transmission and distribution networks, Capital expenditure (capex), Actual and projected sales, Operating costs (opex),
Power projects are essentially capital intensive. Not only they involve a highly initial cost which is around Rs. 4.5 to 5.0 crores per MW for coal-based plants but also huge operation cost. The running expenses of a 210MW thermal power station may range around thirty crores every month and usually about 80% of this goes towards the fuel cost. Not only fuel cost but also fuel crises increasing day to day. It is therefore, very important that one gets the best performances from the installed power plants. The first criterion of performance is the plant output. Failure in generating the maximum