EQUIPMENT COSTS
Peters Timmerhaus & West
PURCHASED EQUIPMENT p.243 PT&W
Cost a/Cost b=(size a/size b)0.6
Lang Factor (in this example) = 4.3
We will say IF = 5.0*E
SHOW ME THE MONEY!CHE462
“Figures don’t lie, but liars sure can figure!” BECKMAN 2012
CASH FLOW & ROI (standard)
Operating Cost
Gross Sales $/yr
S
Operating cost$/yr bye-bye
C
Net sales, $/yr
S-C depreciation
Profit before tax, $/yr
S-C-d
depreciation$/yr
d=IF/NF
Income tax
Income tax$/yr bye-bye
(S-C-d)
Profit after tax, $/yr
(S-C-d)
Total Profit after tax
(S-C-d)+d IF+IW Total Investment
= ROI = ($/yr)/$
IF =
IW =(C/12)*NW
Total Investment. $
EXAMPLE of ROI (standard)
S (sales) = $100 million/yearC (operating cost) = $60 million/yearE (equipment cost) = $10 millionN (project life) = 20 yearsNW (working capital months) = 3
(income tax rate ) = 0.4
Then IF = 5*$10 = $50d = $50/20 yr = $2.5/yrIW = $60/yr*3mo/12mo/yr = $15
ROI = ((100-60-2.5)*(1-.4) +2.5)/(50+15) = 0.385/yr = 38.5%/yr
EXAMPLE MAX ROI (standard)
S (sales) = $100 million/yearC (operating cost) = $40 million/yearE (equipment cost) = $15 millionN (project life) = 20 yearsNW (working capital months) = 3
(income tax rate ) = 0.4
Then IF = 5*$15 = $75d = $75/20 yr = $3.75/yrIW = $40/yr*3mo/12mo/yr = $10
ROI = ((100-40-3.75)*(1-.4) +3.75)/(75+10) =0.435/yr =43.5%/yr
By observation, if E is increased from $10 million to $15 million,maybe C will decrease from $60 million/yr to $40 million/yr so:
Lets EXPENSE the Investmentwe will BORROW IF
i(1+i)N
(1+i)N -1R/IF =
= .05*(1.05)20 /[1.0520 -1]= 0.0802 /yr
Total loan payback = N*R/IF = 20*.0802 = 1.60 or 60% more than you borrowed!
If interest rate is 5% and project life is 20 years, then
CASH FLOW & ROI (IF Expensed)
Operating Cost
Gross Sales $/yr
S
Operating cost$/yr bye-bye
C+R
Net sales, $/yr
S-C-R depreciation
Profit before tax, $/yr
S-C-R-d
depreciation$/yr
d=IF/NF
Income tax
Income tax$/yr bye-bye
(S-C-R-d)
Profit after tax, $/yr
(S-C-R-d)
Total Profit after tax
(S-C-R-d)+d IW Total Investment
= ROI = ($/yr)/$
IF =isRIF*i(1+i)N /[(1+i)N -1]
IW =[(C+R)/12]*NW
Total Investment. $
EXAMPLE of ROI with IF expensed
S (sales) = $100 million/yearC (operating cost) = $60 million/yearE (equipment cost) = $10 millionN (project life) = 20 yearsNW (working capital months) = 3
(income tax rate ) = 0.4i=5%Then IF = 5*$10 = $50R= 0.0802*$50 = $4.0/yrd = $50/20 yr = $2.5/yrIW = $60/yr*3mo/12mo/yr = $15
ROI = ((100-60-4.0-2.5)*(1-.4) +2.5)/(0+15) = 1.51/yr = 151%/yrIf E=$15 million and C= $40 million/yr, then ROI=295% wow
RULE # 1 IN BUSINESS
• NEVER BUY something when you can either rent or borrow (or steal?) !!!!!
CASH FLOW & ROI (d Payback into IF)
Operating Cost
Gross Sales $/yr
S
Operating cost$/yr bye-bye
C
Net sales, $/yr
S-C depreciation
Profit before tax, $/yr
S-C-d
depreciation$/yr
d=IF/NF
Income tax
Income tax$/yr bye-bye
(S-C-d)
Profit after tax, $/yr
(S-C-d)
Total Profit after tax
(S-C-d) IF+IW Total Investment
= ROI = ($/yr)/$
IF =n*d
IW =(C/12)*NW
Total Investment. $
OK here
(where n is the nth year of the projectIF = 0 after n = NF )
EXAMPLE of ROI ( d payback)
S (sales) = $100 million/yearC (operating cost) = $60 million/yearE (equipment cost) = $10 millionN (project life) = 20 yearsNW (working capital months) = 3
(income tax rate ) = 0.4
Then IF = 5*$10 = $50 initiallyd = $50/20 yr = $2.5/yrIW = $60/yr*3mo/12mo/yr = $15
ROI = ((100-60-2.5)*(1-.4) +2.5)/(50-2.5+15) = 0.40/yr = 40%/yrFor year 1
05
101520253035404550
0 5 10 15 20
year number
IF -
n*d
Series1
IF with d payback as a function on time (“book value”)
ROI as a function of time(with d payback into IF)
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
1.8
0 5 10 15 20
year number
RO
I
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