energygel casereport
Energy Gel Case Report
With the High Performance Corporation Energy Gel case before us, we recommend to Florence Vivar, chief financial officer of HPC, that the company should not invest in the energy gel project. We came to this conclusion after amending the existing capital budgeting process, and assessing the opinions of Harry Wickler, Mark Leiter, and Frank Nanzen in how to evaluate the project.
The capital budget process in place is to use the payback period and return on invested capital (ROIC) for the project. The payback period criterion is a flawed way to determine the value of the project because it does not take into account cash flows after the required payback period (7 years). For example, if the Energy Gel project had not paid back the initial investment by year seven, but was very profitable in the years before liquidation, it would result in rejecting a profitable project. In addition, because the cutoff period is very subjective and the time value of money and the risk of the project are ignored, we believe the payback period was an ineffective valuation method.
The ROIC approach is also flawed. In their calculation of the return on investment capital, they did not factor in any dividends the firm would be paying, whether it is about continuing to pay out dividends or a plan to start paying out dividends.
We utilized the net present value formula to decide if High Performance Corporation should invest in Energy Gel. This valuation method combats all the shortcomings of the capital budgeting measures currently in place. This formula states that if the net present value of the discounted cash flows resulting from energy gel is positive, then HPC should invest in the project. However, if the net present value of the discounted cash flows from the project is negative, then HPC should not invest.
With the new capital budgeting process in place, we needed to consider the opinions of HPC employees on which costs should be included in the valuation.
With the High Performance Corporation Energy Gel case before us, we recommend to Florence Vivar, chief financial officer of HPC, that the company should not invest in the energy gel project. We came to this conclusion after amending the existing capital budgeting process, and assessing the opinions of Harry Wickler, Mark Leiter, and Frank Nanzen in how to evaluate the project.
The capital budget process in place is to use the payback period and return on invested capital (ROIC) for the project. The payback period criterion is a flawed way to determine the value of the project because it does not take into account cash flows after the required payback period (7 years). For example, if the Energy Gel project had not paid back the initial investment by year seven, but was very profitable in the years before liquidation, it would result in rejecting a profitable project. In addition, because the cutoff period is very subjective and the time value of money and the risk of the project are ignored, we believe the payback period was an ineffective valuation method.
The ROIC approach is also flawed. In their calculation of the return on investment capital, they did not factor in any dividends the firm would be paying, whether it is about continuing to pay out dividends or a plan to start paying out dividends.
We utilized the net present value formula to decide if High Performance Corporation should invest in Energy Gel. This valuation method combats all the shortcomings of the capital budgeting measures currently in place. This formula states that if the net present value of the discounted cash flows resulting from energy gel is positive, then HPC should invest in the project. However, if the net present value of the discounted cash flows from the project is negative, then HPC should not invest.
With the new capital budgeting process in place, we needed to consider the opinions of HPC employees on which costs should be included in the valuation.