Analysis of Crantwell Division's Proposal

TO: Corporate Management

FROM: Virginia Woo, Financial Analysis Manager

SUBJECT: Analysis of Crantwell Division's proposal

DATE: March 19, 1975

This is to inform you of our analysis and recommendation regarding the Crantwell Division's proposal to invest in equipment that can be used to produce starch from waste bananas for one of its box-making plant.

Our analysis involved a three-step process that will determine if the project will be accepted or rejected. First, we estimated the operating cash flows that can be generated from the proposal. After estimating the cash flows, we evaluated the investment using four decision criteria which are Net Present Value (NPV), Profitability Index (PI), Internal Rate of Return (IRR) and the Payback Period (PB). Lastly, we analyzed the risk involved in the project. Also, it is important to take in consideration the following assumptions;

(1) Production level is constant at 870,000 pounds

(2) Operating costs are fixed and corn starch prices are the only variable costs

(3) Depreciation of the equipment is on a straight line basis with zero salvage value

(4) For sensitivity analysis purposes, we used varying corn starch prices ranging from $0.0686 to $0.12 per pound. This range was based on historical data examined by one of my analysts.

I. Estimated Cash Flows

Currently, the proposal requires an outlay of 149,000 which is the price needed to acquire the equipment. The table below is the summary of the operating cash flows from year 1 - 10 given the following corn starch prices (per pounds); (See Excel for computations)

Pessimistic Most Likely Optimistic

Price of Corn Starch $ 0.0686 $ 0.1150 $ 0.12

Year 0 -$149,000 -$149,000 -$149,000

Year 1 $ 38,542 $ 63,023 $ 65,363

Year 2-10 $ 21,939 $ 46,420 $ 48,760