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Case 1 Solved

A Capital Budgeting Decision — Gillette

Prepared by

Ray Kerlagon

The next capital cost management situation increased for assessment. Things to consider contain: Identification of incremental cash flows.

Any working capital requirements and/or sunk costs.

Precisely what is the appropriate capital budgeting strategy?

How should we talk about risk?

Precisely what is the cost of capital?

What is the project's IRR?

PROJECT CLASSIFICATION:

A market study was carried out in 1997 at an expense of $1, 500, 1000 that indicates a high receptivity among the 30, 000, 000 American men for a new Gillette waxing razor. Study indicates that between 5% - 12% of the marketplace would buy the razor. Promoting has explained that your analysis should certainly assume that just 10% with the target market is usually penetrated. The investigation also suggested that from every 10 new razors marketed, only 3 of the consumers (30% of sales) might have purchased an existing Gillette razor blade if the new razor was not available. The expense of the study was expensed in 1997. The new razor will demand the purchase of some manufacturing equipment this season, 1998, for a cost of $9, 1000, 000, but it will surely be straight-line depreciated over 3 years commencing next year - 1999; no other fresh equipment is necessary. If certified, Gillette will introduce the razor in 1998 and product sales are expected to develop as follows: 2000 would have a rise of five per cent over 1999

2001 would have an increase of 10% over 2000

2002 would have a boost of 15% over 2001

Through quite a few meetings with Marketing, Executive, Treasury, and Accounting departments, you have identified the following info:

New razor blade

Price -- $8. 00 - will be constant over life of study

Set costs annually (excluding depreciation) - $1, 000, 500

Variable cost per razor - $3. 50

Existing razor

Price - $5. 00 -- will be frequent over life of research

Variable expense per razor - $1. 75

Tax clump 35%

Capital structure:

Debts $60, 500, 000 snabel-a 10% coupon

Equity $40, 000, 500 @ 14% cost

Total $100, 1000, 000

Requires an increase in working capital in 1998 of $1, 500, 000, which will be returned in the year 2002.

CONCERNS:

1 . What is Gillette's WACC?

Ans:

Calculation of Measured Average Cost of Capital:

Information (A)

Sum (B)

Cost (C )

Net of Tax Cost (D)

Excess weight (E)

WACC(D * E)

Debt

sixty, 000, 000

10%

6th. 50%

zero. 6

zero. 039

Equity

40, 1000, 000

14%

14%

0. 4

0. 056

95, 000, 1000

WACC

being unfaithful. 50%

installment payments on your What are the correct net cash flows intended for analyzing this kind of project? Ans:

Net Cashflows for the Project:

Information

1998(Beginning)

1998(End)

1999(End)

2000(End)

2001(End)

2002(End)

Number of razor blade expected to always be sold

a few, 000, 1000

several, 000, 1000

a few, 150, 1000

several, 465, 000

three or more, 984, 750

(Sales of 1999 + 5%)

(Sales of 2000 + 10%)

(Sale of 2001 + 15%)

Sales Price Per razor blade (In $)

8

almost eight

8

almost eight

8

Changing Cost Every razor (In $)

3. 5

three or more. 5

three or more. 5

a few. 5

3. 5

Contribution Per razor (In $)

4. 5

4. a few

4. 5

4. your five

4. a few

Total Contribution

13, 500, 000

13, 500, 000

14, 175, 000

15, 592, 500

17, 931, 375

Fixed Expense

1, 000, 000

1, 500, 000

1, 1000, 000

1, 500, 000

1, 000, 000

Deprecriation(Non-Cash Expense)

-

3, 500, 000

3, 500, 000

3, 1000, 000

-

Profit just before Tax

12, 500, 1000

on the lookout for, 500, 1000

10, 175, 1000

14, 592, five-hundred

16, 931, 375

Duty @ 35%

4, 375, 000

3, 325, 000

3, 561, 250

4, 057, 375

5, 925, 981

Profit after...

06.09.2019

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