Burton Sensors. Inc Case Solution
Question No 4
Marshall should not adopt the option of Electro Engineering Incorporation’s acquisition. It is because,the company is generating a negative net present value of $2,388.3 and a negative internal rate of return i.e. – 13.97% (Appendix 2). Furthermore, if the acquisition of EE Incorporation generates a zero NPV;it would still not be recommended because it involves a very high opportunity cost, as a zero NPV indicates the project’s inflows to be equal to the outflows. The acquisition of EE will not provide long term benefits to the company and it would not increase the shareholders’ value.
Question No 5
The company would not be able to attain the benefit of EE acquisition in its balance sheet and income statement. In order to acquire the EE Company; the company would certainly need to generate financing, which is mainly focused on equity financing. However, the financial analysis of EE acquisition shows that the company would not generate wealth for its shareholders as it is generating a negative net present value as well as a negative internal rate of return. It would decrease Marshall’s market position. Therefore, the company is recommended to issue further stock as private equity in order to meet its future expansion options. By utilizing this option, the company should purchase the Thermopylae machines, as its beneficial for the company, enabling it to maintain a sustainable competitive advantage in the industry.
Appendices
Appendix 1
| WACC | |
| Risk Free Rate, rfr | 3% |
| Risk Premium, rpm | 6.50% |
| Rate on Debt, rd | 4.80% |
| Rd(1-T) | 3.12% |
| Beta (Based on comparable company) | 1.25 |
| Rate on Equity | 11.10% |
| Weight of debt, wd | 84.7% |
| Weight of equity, we | 15.3% |
| Tax Rate | 35.0% |
| WACC | 4.3% |
| Purchase of Thermowell Machines | ||||||||
| Industry CAGR | 4.50% | |||||||
| Outside Purchase - Savings | $ 1,400,000 | |||||||
| Initial Cost of Thermowell Machines | $ 600,000 | |||||||
| Number of machines | 4 | |||||||
| Useful life in Years | 7 | |||||||
| Salary expense | $ 170,000 | |||||||
| Material & Rent Expense | $ 780,000 | |||||||
| Working Capital | $ 650,000 | |||||||
| 2016 | 2017 | 2018 | 2019 | 2020 | 2021 | 2022 | 2023 | |
| Initial Cost Outlay | $ 600,000 | |||||||
| WCI | $ 650,000 | |||||||
| Cost Savings | 1,400,000 | 1,463,000 | 1,528,835 | 1,597,633 | 1,669,526 | 1,744,655 | 1,823,164 | |
| Less: Expenses | ||||||||
| Salary expense | $ 170,000 | $ 170,000 | $ 170,000 | $ 170,000 | $ 170,000 | $ 170,000 | $ 170,000 | |
| Material & Rent Expense | $ 780,000 | $ 815,100 | $ 851,780 | $ 890,110 | $ 930,165 | $ 972,022 | $ 1,015,763 | |
| Depreciation | $ 85,714 | $ 85,714 | $ 85,714 | $ 85,714 | $ 85,714 | $ 85,714 | $ 85,714 | |
| Total Income | $ 364,286 | $ 392,186 | $ 421,341 | $ 451,809 | $ 483,647 | $ 516,919 | $ 551,687 | |
| Add: Depreciation | $ 85,714 | $ 85,714 | $ 85,714 | $ 85,714 | $ 85,714 | $ 85,714 | $ 85,714 | |
| Less: Taxes | $ 127,500 | $ 137,265 | $ 147,469 | $ 158,133 | $ 169,277 | $ 180,921 | $ 193,090 | |
| Total Cash outflow/ Inflows | ($1,250,000) | $ 322,500 | $ 340,635 | $ 359,586 | $ 379,390 | $ 400,085 | $ 421,711 | $ 444,311 |
| Net Present Value, NPV | $947,555.38 | |||||||
| Internal Rate of Return, IRR | 21.97% | |||||||
Appendix 2
| WACC | ||
| Share Value | $4.75 | |
| Risk Free Rate | 3% | |
| Equity Risk Premium | 5.80% | |
| Rate on debt | 6.50% | |
| Weight of Debt | 40.24% | |
| Weight of Equity | 59.76% | |
| Tax Rate | 35% | |
| Equity beta | 1.235 | |
| Rate of debt | 10.16% | |
| WACC | 7.8% | |
| NPV- Electro Engineering Inc | ||||||
| 2016 | 2017 | 2018 | 2019 | 2020 | 2021 | |
| Initial Investment | $ 5,225.00 | |||||
| Sales | $ 4,072.70 | $ 5,050.15 | $ 5,933.92 | $ 6,824.01 | $ 7,642.89 | $ 8,407.18 |
| Increase in Sales | $ 977.45 | $ 883.78 | $ 890.09 | $ 818.88 | $ 764.29 | |
| Reduction in COGS | $ 135.34 | $ 159.03 | $ 182.88 | $ 204.83 | $ 225.31 | |
| Reduction in SG&A | $ 101.00 | $ 118.68 | $ 136.48 | $ 152.86 | $ 168.14 | |
| Increase in A/c Payable | $ 7.88 | $ 7.88 | $ 7.88 | $ 7.88 | $ 7.88 | |
| Total Cash Inflows | $ 1,221.67 | $ 1,169.36 | $ 1,217.33 | $ 1,184.45 | $ 1,165.63 | |
| Less: Expenses | ||||||
| R&D | $ 272.68 | $ 320.39 | $ 368.45 | $ 412.67 | $ 453.93 | |
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