PAT Harvard Case Solution & Analysis

Question 1:

PAT is a panel company which is showing the earnings after tax which is $75,000 and it has the negative present value $58,750. It means that the investment amount will not generate the future cash flows, so the investment in panel industry is useless as it has no worth according to calculations. See below for the earnings and present value.

Income Statement

Revenue $   150,000
Cost $     25,000
EBT $   125,000
Tax $     50,000
EAT $     75,000

 

 

 

 

Cash Flows

EAT $         75,000
Depreciation $               200
FCF $         75,200
Present Value of FCF $       (58,750)

Question 2:

Cash Flows

EAT $    60,000
Depreciation $          200
FCF $    60,200
Present Value of Interest Tax Shields $  125,000
Annual Cash Flows $  (64,800)

This investment is not worthwhile as its net present value after incorporating debt is showing negative results; which means that by investing in this project the future cash flows will not generate returns on investment positively. Refer excel sheet of the calculation for the below table.

Income Statement

Revenue $  150,000
Cost $    50,000
EBT $  100,000
Tax $    40,000
EAT $    60,000

Question 3:

The investment in this industry is not optimal as this industry will generate the future cash flows after incurring cost for several years.

This industry has the potential to grow but the cost of capital is very high in the initial stage. To conclude, investment should be made where the return of investment is relatively high than panel industry. Please refer the excel sheet for the calculation.

Income Statement

Revenue $  150,000
Cost $    42,000
EBT $  108,000
Tax $    43,200
EAT $    64,800

Cash Flows

EAT $    64,800
Depreciation $          200
FCF $    65,000
Present Value of Interest Tax Shields $  125,000
Annual Cash Flows $  (60,000)

 

 

 

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