what does theory tell us about the strengths and limitations of budgeting and the di 594025
(Profit Budget, Cash Forecast, and DCF Analysis) Phonic Solutions is considering creating a new division, which will require an investment in computer and telecommunications equipment of $10 million. The company has a cost of capital of 12%.
The sales department has forecast sales for each of the next five years for this new division as follows:
Year 1 |
$4 million |
Year 2 |
$6 million |
Year 3 |
$8 million |
Year 4 |
$6 million |
Year 5 |
$4 million |
Operations staff has predicted the cost of sales as 30% of revenue. Rent and office expenses are $300,000 each year. Selling and administration salaries will be $400,000 in the first year, increasing each year by 5%. Repairs & maintenance will be $100,000 in each of Years 1 and 2, $200,000 in each of Years 3 and 4, and $300,000 in Year 5. The company depreciates its equipment over four years.
- Produce the following:
- Profit budget for each of the five years, showing both gross profit and operating profit
- Cash flow for each of the five years
- Discounted cash flow analysis and use this to recommend whether the new division and capital investment should proceed
- What does theory tell us about the strengths and limitations of budgeting and the discounted cash flow technique?