Answer To: I do not have a preference for Attachment 1 and 2. you can choose. Please do it on excel
Shakeel answered on Nov 09 2021
Capital Budgeting Analysis
of
Paper Bag Manufacturing Co.
Submitted to
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Purpose of the study
This report is a detailed capital budgeting analysis of a hypothetical company – Paper bag Manufacturing Co. The project of business operation is considered for next three years where revenue and all expenses are considered by taking all possible variables and factors of similar company and real life situation and assumptions. Several capital budgeting techniques like NPV, IRR, Payback period, MIRR etc are used to evaluate the feasibility of project. Further, Sensitivity analysis and Scenario analysis are conducted to get insight of key variables important for the success of the project. The suitability of project financing is also analyzed by considering both debt and equity. Therefore, the whole study provides an opportunity to use the capital budgeting techniques in real world example where project is related to starting of new business.
Assumptions
Eco bag is paper bag with 100% recycled product. It is made of natural paper pulps. The plastic made materials have polluted our earth at significant scale. Plastic bags which are specially made from polythene are less degradable and take more than a century to fully degrade. It not only degrades soil but water and air also. Therefore, paper made bag would be an appropriate replacement of plastic made bags. Such step would not only prevent the pollution but also prove to be pocket friendly to consumers. Therefore, starting a business of manufacturing paper bag is innovative, eco friendly and low investment business with high profit margin.
Following assumptions are consider while starting the project –
Initial Investment:
· Purchase of machinery and Equipment = $150,000
· Initial working capital requirement = $10,000
The different costs associated with the production of paper bags in a month are as follows –
Sl. No
Content
Nature of cost
Direct / Indirect
Cost
1.
Rent (40ft*20 ft area)
Fixed
Indirect
$4,640
2.
Electricity (1,180 kwh)
Variable
Direct
$148
3.
Raw Paper
Variable
Direct
$42,000
4.
Wages
Variable
Direct
$11,520
5.
Salary
Fixed
Indirect
$6,000
6.
Printing chemicals, ink, waterproof coating etc (@20% of raw material cost)
Variable
Direct
$8,400
7.
Eyelets, laces and tags (@ 10% of raw material costs)
Variable
Direct
$4,200
8.
Packaging cost) (@ 5% of Raw material cost
Variable
Indirect
$2,100
9.
Other administrative utilities
Fixed
Indirect
$4,000
Few more assumptions –
· Tax rate = 30%
· The life of machinery is 10 years is it is depreciated through St. line method
· Machinery is sold at the end of the project at its book value.
· Working capital is recovered at the end of the project
· The selling price and sales volume remain constant for next 3 years
· All expenses remain constant for next 3 years
· Selling price is fixed at 32% mark up cost i.e. price is 32% higher of Cost of goods sold
· Risk free rate is taken as the average yield on 10-years bond
· Market return is 10%
· Beta of similar company’s stock is 1.50
Calculation of some major variables -
Rent is charged @ $5.80 per sq. ft
Rent per month = 5.80*40*20 = $4,640
Fully automatic Paper bag machine
Capacity = 5 HP
Electricity unit consumed on running an hour = 4 units
Total electricity consumed in a month (6 days a week and 6 hrs a day) = 576 units
Electricity cost per unit = $0.17
Machine running electricity cost per month = $0.17*576 = $98
Miscellaneous electricity bill for lightning & heating = $50
Total electricity bill per month = $148
Capacity of machinery = 100 bags per minute
No of paper bags manufactured daily (on 6 hrs running of machinery) = 36,000
It will require 1.75 ton of paper.
Therefore, total weight of paper needed in a month = 1.75*24 = 42 ton
Price of 1 ton of paper = $1,000
Therefore, total paper cost a month = $1,000*42 i.e. $42,000
It is assumed that there will be 4 workers.
Wage per hour = $15
Total wages per month = $15*4*8*2 = $11,520
It is assumed that there will be two full time employees – an administrative staff and accountant.
Per employee salary = $3,000
Therefore, total salary per month = 2*3,000 = $6,000
In a month, the estimated no of paper bags produced = 36,000*24 = 864,000 units
Calculation of cost of goods sold –
Cost of goods sold
Raw Paper
$42,000
Wages
$11,520
Printing chemicals, ink, waterproof coating etc
$8,400
Eyelets, laces and tags
$4,200
Packaging cost
$2,100
Cost of goods sold per month
$68,220
Per unit cost of production = 68,220 / 864,000 = $0.08
Selling price per unit = $0.08*1.32 = $0.105
Revenue per month = $0.105*864,000 = $90,720
Monthly cash flow calculation
Following table shows the monthly cash flow for the company under the given assumption.
Monthly Free Cash flow
Revenue
$90,720
Less: Cost of goods sold
$68,220
Less: Depreciation
$1,250
Gross Profit
$21,250
Less: Selling and Distribution Cost
$13,644
Less: Administrative expenses
$4,000
Profit before tax (PBT)
$3,606
Less: Tax @ 30%
$1,082
Profit after tax (PAT)
$2,524
Add: Depreciation
$1,250
Free Cash flow
$3,774
The annual cash flows for the next three years are as follows –
Annual free cash flow
Year 0
Year 1
Year 2
Year 3
Initial Investment
($160,000)
Revenue
$1,088,640
$1,088,640
$1,088,640
Less: Cost of goods sold
$818,640
$818,640
$818,640
Less: Depreciation
$15,000
$15,000
$15,000
Gross Profit
$255,000
$255,000
$255,000
Less: Selling and Distribution Cost
$163,728
$163,728
$163,728
Less: Administrative expenses
$48,000
$48,000
$48,000
Profit before tax (PBT)
$43,272
$43,272
$43,272
Less: Tax @ 30%
$12,982
$12,982
$12,982
Profit after tax (PAT)
$30,290
$30,290
$30,290
Add: Depreciation
$15,000
$15,000
$15,000
Add: Recovery of working capital
$10,000
Add:...