Enager Industries, Inc.
Question 1) Why was McNeil's new product proposal rejected? Should it have been? Explain.
McNeils' proposal was rejected because it did not meet the target return 15%, which was decided by Hubbard. However, the EVA is unfavorable under 15% return. Hubbard also states that a company like Enager should have a 12% return on EBIT. With this being said, McNeil's proposal demonstrates a return of 13% (ROA = EBIT/Assets = $390,000/$3,000,000), and a favorable EVA will be provided under this return figure. If cost of capital can be had for under 13%, then McNeil's proposal is a money maker for the Enager. In this case, McNeil’s proposal should not have been rejected.
Additionally, an important goal of a business enterprise is to optimize shareholder returns, Anthony and Covindarajan (2007, P460) indicated that, however optimizing short-term profitability does not necessarily ensure optimum shareholder returns since shareholder value represents the net present value of expected future earnings. The consideration of this project did not take into account the time value of money. In this case, the decision may be misleading. To calculate the NPV of the project, there is more information needed (e.g. discount rate).
Question 2) What inferences do you draw from a cash flow statement for 1993? Is a break down by division useful? (Cf. Appendix 1)
Operating activities
In 1993, the operating activities have provided a positive cash flow of $24,711,000. The operating cash flow statement helps us to identify why this cash is not high enough to reach the management’s R.O.A. requirements.
Indeed, depreciation ($9,864,000) represent 53,6% of the Net Profit after interest before tax ($18,414,000). The level of depreciation is high and the value of each division’s assets is certainly affected by the accumulation of depreciation. Therefore, the Industrial Products Division is right to wonder about the actual way of evaluating each division’s performance. The fourth part of this
McNeils' proposal was rejected because it did not meet the target return 15%, which was decided by Hubbard. However, the EVA is unfavorable under 15% return. Hubbard also states that a company like Enager should have a 12% return on EBIT. With this being said, McNeil's proposal demonstrates a return of 13% (ROA = EBIT/Assets = $390,000/$3,000,000), and a favorable EVA will be provided under this return figure. If cost of capital can be had for under 13%, then McNeil's proposal is a money maker for the Enager. In this case, McNeil’s proposal should not have been rejected.
Additionally, an important goal of a business enterprise is to optimize shareholder returns, Anthony and Covindarajan (2007, P460) indicated that, however optimizing short-term profitability does not necessarily ensure optimum shareholder returns since shareholder value represents the net present value of expected future earnings. The consideration of this project did not take into account the time value of money. In this case, the decision may be misleading. To calculate the NPV of the project, there is more information needed (e.g. discount rate).
Question 2) What inferences do you draw from a cash flow statement for 1993? Is a break down by division useful? (Cf. Appendix 1)
Operating activities
In 1993, the operating activities have provided a positive cash flow of $24,711,000. The operating cash flow statement helps us to identify why this cash is not high enough to reach the management’s R.O.A. requirements.
Indeed, depreciation ($9,864,000) represent 53,6% of the Net Profit after interest before tax ($18,414,000). The level of depreciation is high and the value of each division’s assets is certainly affected by the accumulation of depreciation. Therefore, the Industrial Products Division is right to wonder about the actual way of evaluating each division’s performance. The fourth part of this