Global Journal of Management and Business Research: C

Finance
Volume 16 Issue 7 Version 1.0 Year 2016
Type: Double Blind Peer Reviewed International Research Journal
Publisher: Global Journals Inc. (USA)
Online ISSN: 2249-4588 & Print ISSN: 0975-5853

Dashen Bank Share Company: Capital Budgeting Decision

(Real-World Case Studies)
By Andualem Ufo
Wolaita Sodo University
Case Description- The capital budgeting decision is one of the most important financial decisions in
business firms. In this case, Dashen Bank Share Company (DBSC) is considering whether to invest in a
system to modernize its local money transfer services. To determine if the project is profitable, DBSC
must first determine the weighted average cost of capital to finance the project. The simple payback
period, discounted payback period, net present value (NPV), internal rate of return (IRR), and modified
internal rate of return (MIRR) techniques are used to study the profitability of the project. MIRR is a
relatively new capital budgeting technique, which assumes that the reinvestment rate of the project’s
intermediary cash flows is the bank’s cost of capital. The stand- alone risk of the project is evaluated with
the sensitivity analysis and scenario analysis techniques assuming that the new system would not affect
the current market risk of the bank. The case gives students an opportunity to use the theoretical
profitability and risk analyses techniques explained in their financial management module and related
tutorial classes in a real- world setting.
Keywords: capital budgeting, weighted average cost of capital, cash flow, payback period, net present
value, internal rate of return, modified internal rate of return, sensitivity analysis, scenario analysis.
GJMBR - C Classification : JEL Code: G31

DashenBankShareCompanyCapitalBudgetingDecisionRealWorldCaseStudies
Strictly as per the compliance and regulations of:

© 2016. Andualem Ufo. This is a research/review paper, distributed under the terms of the Creative Commons Attribution-
Noncommercial 3.0 Unported License http://creativecommons.org/licenses/by-nc/3.0/), permitting all non-commercial use,
distribution, and reproduction in any medium, provided the original work is properly cited.
 Dashen Bank Share Company: Capital
Budgeting Decision (Real-World Case Studies)
Andualem Ufo

Case Description- The capital budgeting decision is one of years of use. The bank expects the system will increase
the most important financial decisions in business firms. In the number of local money transfer customers by
this case, Dashen Bank Share Company (DBSC) is 100,000. The company estimates that it will charge on
considering whether to invest in a system to modernize its
the average Br.5 fee per customer for the transfer

2016
local money transfer services. To determine if the project is
service in the first year with a cost of Br.3 per customer,
profitable, DBSC must first determine the weighted
excluding depreciation. Management forecasts that

Year
average cost of capital to finance the project. The simple
payback period, discounted payback period, net present both the service fee and cost per customer will
value (NPV), internal rate of return (IRR), and modified increase by 10% per year due to inflation. DBSC’s net
19
internal rate of return (MIRR) techniques are used to study operating working capital would have to increase by
the profitability of the project. MIRR is a relatively new capital 18% of fees earned to deliver the transfer service. The

Global Journal of Management and Business Research ( C ) Volume XVI Issue VII Version I
budgeting technique, which assumes that the reinvestment bank is subject to 30% income tax.
rate of the project’s intermediary cash flows is the bank’s cost
of capital. The stand- alone risk of the project is evaluated DBSC’s WACC
with the sensitivity analysis and scenario analysis Mehretu, a recent MBA graduate of Addis
techniques assuming that the new system would not affect Ababa University, is conducting the capital budgeting
the current market risk of the bank. The case gives students analysis for the project. The bank hired him only a
an opportunity to use the theoretical profitability and risk few weeks ago as the head of the newly formed
analyses techniques explained in their financial management
Capital Budgeting Analysis Department. In order to
module and related tutorial classes in a real- world setting.
evaluate feasibility of the investment in the new system,
The case is best suited for Master of Business
administration, Master of Accounting & finance, Master of Mehretu’s first task is to estimate DBSC’s WACC. He
Project Management students and is expected to take plans to use the financial data in Exhibit 1 to estimate
approximately four to five hours to complete. The case is the WACC. When DBSC started evaluating the project,
moreover; very useful for Ethiopian Students for thinking how the following conversation took place between Mehretu
they can make capital decision in Ethiopian context. Similar and Ato Nesru. Ato Nesru, the CEO of the bank, is a
case study were previously developed by Meric et al., is used London School of Business graduate with a major in
as a base for development of this case in Dashen bank financial economics and long years of administrative
Ethiopian with its original in nature and different solution keys
experience.
context. It is teachable to students in Ethiopia and elsewhere
in the world. This review of Finance case Studies is very useful Mehretu: It may be difficult to estimate cost of
for understanding the concept of Cost of capital and Capital borrowing in the current recessionary environment.
budgeting techniques. Nesru: We can determine the yield to maturity (YTM) on
Keywords: capital budgeting, weighted average cost our outstanding bonds by using their current market
of capital, cash flow, payback period, net present prices. We can assume that we will be able to issue
value, internal rate of return, modified internal rate of additional bonds with this YTM as the cost of
return, sensitivity analysis, scenario analysis. borrowing. We should be able to place the new
I. Case Information bonds without any flotation costs. Therefore, we can
assume no flotation costs in our calculations. We can

D
BSC is planning to invest in a special system to re-examine feasibility of the project later before raising
deliver local money transfer services to its funds by using sensitivity analysis to assess the impact
customers. The invoice price of the system is of possible changes in interest rates on NPV of the
Br.280,000 subject to 15% non-refundable VAT. It would project.
require Br.18,000 in shipping expenses and Mehretu: Do you think the bank’s current market value
Br.25,000 in installation costs. The system will be capital structure is optimal? Can we use the current
depreciated using straight line method with 25% percentages of the capital components as weights in
annual rate on original cost of the system. DBSC calculating the bank’s WACC?
plans to use the system for four years and it is
Nesru: Yes, I believe that the bank’s current market
expected to have a salvage value of Br.80,000 after four
value capital structure of 30% debt, 10% preferred
stock and 60% equity is optimal. We have about
Author: Lecturer, Wolaita Sodo University, Department of Accounting &
Finance. e-mail: ufoandualem@gmail.com Br.95,000 in retained earnings this year, which is also
© 20 16 Global Journals Inc. (US)
 Dashen Bank Share Company: Capital Budgeting Decision (Real-World Case Studies)

available in cash. We should be able to use this year’s investment in the computation of cost of common
retained earnings to finance part of the equity financing equity.
required for the project. However, we will have to issue Ato Nesru gave only one week to Mehretu for
some new common shares for the remainder of the his estimation of DBSC’s WACC. With the instructions
necessary equity financing. We can assume a flotation he received from Ato Nesru and with the help of the
cost of about 10% for the new common shares. financial data in Exhibit 1, Mehretu began the task of
Mehretu: There are three basic methods of estimating the bank’s WACC immediately.
calculating a firm’s cost of equity when retained Ato Nesru knew that estimating the bank’s cost
earnings are used as equity capital: 1) the capital asset of capital was the first critical step in the capital
pricing method (CAPM); 2) the discounted cash flow budgeting process. Without this analysis, it would not
(DCF) approach; and, 3) the bond-yield-plus-risk- be possible to determine if the new system would be a
premium method. Which of these methods should we profitable investment for DBSC. That is why he had
2016

use in the calculation of our cost of retained earnings? asked Mehretu to estimate the bank’s WACC as the
Nesru: Although each of these methods has its first task. Ato Nesru was very pleased when he received
Year

merits, I believe that the most appropriate approach Mehretu’s calculation results and the WACC estimate.
for our bank would be to find an average cost with the He thought that he had made a good decision in
20 hiring Mehretu as the head of the company’s newly
three methods. Besides, we can consider the yield on
the Ethiopian Government TB as risk free return on established Capital Budgeting Analysis Department.
Global Journal of Management and Business Research ( C ) Volume XVI Issue VII Version I

Exhibit 1: Financial data Mehretu Plans to use in estimating DBSC’s WACC

DBSC’s current Market Value optimal capital structure:
Amount Weight
Bonds Br. 30million 30%
Preferred Stocks Br.10 million 10%
Common Stocks Br.60 million 60%

Data to be used in calculation of the cost of borrowing with bonds:

Par Value Br.1000(non-callable)
Market Value Br.1059
Coupon Interest 9%(semiannual payment)
Remaining maturity 15 years
Flotation Costs 0

Data to be used in calculation of the cost of Preferred Stocks:

Par Value Br.100
Annual Dividend 9% of Par
Market Value Br.102
Flotation Costs 7%

Data to be used in calculation of the cost of Common equity:

CAPM data: DBSC’s beta 1.2
Yield to Ethiopian Government Treasury 2%
bills
Market Return 6%
DCF data: Stock Price Br.19.08
Last year’s dividend(Do) Br.1
Expected dividend growth rate 5%
Bond-Yield-plus-Risk-Premium: Risk Premium 3.5%
Amount of Retained earnings available Br.95,000
Amount of new Common stock to be issued [(Br.365,000X60%)-95,000=124,000] Br.124,000
This exhibit shows the data needed to estimate the bank’s WACC. Specifically, it presents the DBSC’s current market
value optimal capital structure used to determine in the WACC calculation. It then provides the data required to
calculate the cost of debt, the cost of preferred stock, and the cost of common stock. The figures are computed based
on analysis of investment in Ethiopian banking industry. The amount of new common stock to be issued is provided at
the end of the exhibit.

© 2016
1 Global Journals Inc. (US)
 Dashen Bank Share Company: Capital Budgeting Decision (Real-World Case Studies)

Analysis of the profitability of the project terms of Birr to the stockholders of the bank. It is easier
Ato Nesru and Mehretu had the following to compare the project’s IRR with the bank’s WACC to
conversation regarding how they should evaluate convince the stockholders that we can earn a higher
the potential profitability of the project. percentage return on the investment than what it would
Mehretu: With the fees and cost estimates I have cost to finance it. I have heard that there is a new
obtained from the marketing and accounting improved capital budgeting technique that measures
departments in Exhibit 2, we should be able to estimate the profitability of a project as a percentage similar to
the project’s cash flows for the four-year horizon. the IRR method and it assumes that the project’s
intermediary cash flows can be reinvested at the firm’s
Nesru: Excellent! How are we going to evaluate the
cost of capital as in the NPV method. I believe the
project’s profitability to determine if it is feasible?
technique is called the Modified Internal Rate of
Mehretu: The Net Present Value (NPV) and Internal Return (MIRR) method.
Rate of Return (IRR) methods are generally used in
Mehretu: No problem. We should be able to calculate

2016
the evaluation of projects. However, these two methods the project’s MIRR.
have different assumptions regarding the reinvestment

Year
rate of the intermediary cash flows. The NPV method Nesru: Great! I would also like to see the NPV, IRR,
assumes that the intermediary cash flows can be simple payback period, and discounted payback
period results for the project. 21
reinvested at the firm’s cost of capital. However, the IRR
method assumes that the reinvestment rate is the Mehretu: Consider it done!

Global Journal of Management and Business Research ( C ) Volume XVI Issue VII Version I
project’s IRR. Academicians argue that the reinvestment With the instructions he received from Ato
rate assumption of the NPV method is more realistic. Nesru, Mehretu immediately started to work on the
Therefore, they recommend the NPV method. The cash flow calculations using the data in Exhibit 2 to
financial goal of a firm is to maximize market value. The analyze the profitability of the project with the NPV, IRR,
NPV of a project shows its contribution to the market MIRR, simple payback period, and discounted payback
value of the firm. period methods.
Nesru: Correct! However, the NPV is expressed in Birr.
It is difficult to explain the profitability of a project in

Exhibit 2 : Data Mehretu plans to use in calculating the cash flows of the
project and evaluating its profitability
Year 0 Year 1 Year 2 Year 3 Year 4
Cost of the new
system:
Invoice price of the Br.280,000
new system
VAT(15%) 42,000
Shipping 18,000
Installation 25,000
Total cost of the 365,000
new
system(depreciable
biases)
Annual 25%
depreciation rate
Salvage value 80,000

Operating fees and

costs
Number of - 100,000 100,000 100,000 100,000
customers
Fees per - Br.5
customers
Cost per - Br.3
customers
Fees earned - Br.500,000
Costs - Br.300,000

© 20 16 Global Journals Inc. (US)

 Dashen Bank Share Company: Capital Budgeting Decision (Real-World Case Studies)

Net operating
working capital
requirement
Fees earned Br.500,000
Net operating Br.90,000
working capital
requirement (18%)
Cash flow due to (90,000)
Net operating
working capital
requirement (18%)
2016

This exhibit shows the data needed to calculate the cash flows for this project.
The new money transfer system has a useful life of 4 years, a salvage value of
Year

Br.80, 000. Annual fees earned and costs estimates are presented in the
middle of the exhibit. The system is expected to increase the number of
22 customers for local money transfer services by 100,000 with average fee per
customer Br.5 and cost of Br.3. The DBSC’s net operating working capital
requirement which is shown at the bottom of exhibit is 18% of total fees earned
Global Journal of Management and Business Research ( C ) Volume XVI Issue VII Version I

in a given year.

Risk Analysis change with the 10% increase or decrease in the

After Mehretu submitted the cash flow number of customers.
calculations and the project profitability analysis Mehretu: No problem. We can conduct a sensitivity
results to Ato Nesru, they had the following analyses for the project’s NPV with regard to a
conversation regarding the risk analysis for the project. 10% deviation from our base number of customers
Nesru: The NPV, IRR, MIRR, simple payback and forecast.
discounted payback results all look promising. Nesru: Given the current volatile financial environment,
However, we should also conduct a risk analysis of the the actual WACC figure is also likely to deviate from
project before we go ahead with it. Since the project is the expected base level. I would like to know how
about modernization of delivery of an existing service, I sensitive the project’s NPV is to an increase or
do not believe that the new project will change the decrease of 1% in the WACC.
bank’s beta and its overall market risk. Therefore, it
Mehretu: No problem. We should be able to conduct
should be sufficient to evaluate the stand-alone risk
a sensitivity analysis for the project with regard to a
of the project. What are the techniques that we can
possible 1% change in the WACC. Another analysis
use to assess the stand-alone risk of the project?
technique for project risk widely used in practice is
Mehretu: Sensitivity analysis is a widely used scenario analysis. In this technique, the best and
technique to determine how much a project’s NPV will worst-case NPV scenarios are compared with the
change in response to a given change in an input project’s expected NPV. Do you want us to conduct a
variable. Input variables such as number of customers scenario analysis of the project as well?
or the cost of capital are often used while holding other
Nesru: Yes. It would be a good idea. As the best-
things constant.
case scenario, assume that the number of customers
Nesru: The number of customers is difficult to will be 10% higher and the WACC will be 1% lower (i.e.
forecast with a high degree of accuracy. initially computed WACC less 1%) than our original
Therefore, we should conduct a sensitivity estimates. For the worst-case scenario, assume that the
analysis with regard to possible changes in the number of customers will be 10% lower and the WACC
forecasted number of customers. It should be sufficient will be 1% higher (i.e. initially computed WACC plus
to evaluate the impact of an increase or a decrease of 1%). Please calculate the standard deviation and the
10% in number of customers from our base forecast. coefficient of variation of the project’s NPV probability
The new system will be initially employed at about distribution with these scenarios. You can assume a
80% capacity with our base number of customers probability of 50% for the base NPV forecast, a
forecast. Therefore, the unutilized capacity of the probability of 20% for the best- case scenario, and a
system should enable us to accommodate a 10% probability of 30% for the worst-case scenario.
increase in the number of customers. We estimate that Mehretu: No problem. I should be able to submit the
costs, excluding depreciation, will be 60% of fees per risk analysis results to you within a week.
customer. We can assume that this ratio will not

© 2016
1 Global Journals Inc. (US)
 Dashen Bank Share Company: Capital Budgeting Decision (Real-World Case Studies)

With the instructions he received from Ato a) Description of the Case

Nesru, Mehretu immediately started to conduct a The capital budgeting decision is one of the
stand- alone risk evaluation of the project with the most important financial decisions in business firms. In
sensitivity analysis and scenario analysis techniques. this case, DASHEN BANK (DB) is considering whether
to invest in a new system. To determine if the project is
II. Questions profitable, DB must first determine the weighted average
Assuming that you are Mehretu, answer the cost of capital to finance the project. The simple
following questions: payback period, discounted payback period, net
present value (NPV), internal rate of return (IRR), and
1. Calculate Dashen’s WACC using the data in Exhibit
modified internal rate of return (MIRR) techniques are
1.
used to study the profitability of the project. MIRR is a
2. Calculate the project’s cash flows using the data in
relatively new capital budgeting technique, which
Exhibit 2. Why is it important to take into account

2016
assumes that the reinvestment rate of the project’s
the effect of inflation in forecasting the cash flows?
intermediary cash flows is the firm’s cost of capital. The
Briefly comment.

Year
stand- alone risk of the project is evaluated with the
3. Evaluate the profitability of the project with the
sensitivity analysis and scenario analysis techniques
NPV, IRR, MIRR, simple payback period, and
assuming that Bank the new product would not affect 23
discounted payback period methods. Is the
the current market risk of the company. The case gives
project acceptable? Briefly explain. Why is the

Global Journal of Management and Business Research ( C ) Volume XVI Issue VII Version I
an opportunity to use the theoretical profitability and risk
NPV method superior to the other methods of
analysis techniques explained in standard finance
capital budgeting? Briefly explain.
textbooks in a real- world setting. The case is best
4. Conduct the stand-alone risk analysis of the
suited for Masters of Business Administration and
project with the sensitivity analysis and scenario
Master of Accounting is expected to take approximately
analysis techniques. Explain why sensitivity
three to four hours to compete. The case may also be
analysis and scenario analysis can be useful
appropriate for undergraduate senior finance majors.
tools in the capital budgeting decision-making
process when economic and financial conditions
are likely to change in the future.
Answers
Question 1: Calculate Dashen Bank’s WACC using the data in Exhibit-1
Solution 1:
Cost of Debt:
Cost of debt (rd) = 9%, after-tax cost of debt, rdT = rd (1-T) = 9 %( 1-0.3) = 6.3%
Cost of Preferred Stock:
rps = Dps / Pps (1 – F) = (0.09)(Br.100) / (Br.102)(1 - 0.07)
= Br.9 / Br.94.86 = 9.48%
Cost of Common Equity:
CAPM: rs = rRF + (RPM) b = 0.02 + (0.06) (1.2) = 9.2%
DCF: rs = [D0(1 + g) / P0] + g = [Br.1(1 + 0.05) / Br.19.08] + 0.05 = 10.5%
Own-Bond Yield-Plus-Risk Premium:
rs = rd + Bond RP = 0.09 + 0.035 = 12.5%
Cost of retained earnings (average rs):
Av. rs = (9.2% + 10.5% + 12.5%) / 3 = 10.73%
Cost of new common stock(re)
re= [D0(1 + g) / P0(1-F)] + g= Br.1(1+0.05) / 19.08(1 - 0.1)+0.05 = 11.11%

Weighted Average Cost of Capital (WACC):

WACC = wd rd (1 – T) + wps rps + wre rs + wncs re = (0.3)(0.09)(1 – 0.3) + (0.1)(0.0948)
+(0.6)(95,000/219,000)(0.1073) + (0.6)(124,000/219,000)(0.1111) = 9.404%

© 20 16 Global Journals Inc. (US)

 Dashen Bank Share Company: Capital Budgeting Decision (Real-World Case Studies)

Question 2: Calculate the project’s cash flows using the data in Exhibit 2. Why is it important to take into account
the effect of inflation in forecasting the cash flows? Briefly comment.
Solution 2: Annual revenue and cost estimates (assume 10% inflation rate):
Year 1 Year 2 Year 3 Year 4
Customers 100,000 100,000 100,000 100,000
Unit Price Birr 5.00 Br.5.50 Br.6.05 Br.6.655
Unit Cost 3.00 3.30 3.63 3.993
Sales Br.500,000 Br.550,000 Br.605,000 Br.665,500
Costs 300,000.00 330,000.00 363,000 399,300

Depreciation:
2016

Year 1 25% x Br.365,000 = Br.91,250

Year 2 25% x Br.365,000 = Br.91,250
Year

Year 3 25% x Br.365,000 = Br.91,250

24 Year 4 25% x Br.365,000 = Br.91,250
Operating cash flows
Global Journal of Management and Business Research ( C ) Volume XVI Issue VII Version I

Year 1 Year 2 Year 3 Year 4

Sales Br.500,000.00 Br.550,000.00 Br.605,000 Br.665,500
Costs 300,000.00 330,000.00 363,000 399,300
Depreciation Br.91,250 Br.91,250 Br.91,250 Br.91,250
EBIT Br.108,750 128,750 150,750 174,950
Tax (30%) 32,625 38,625 45,225 52,485
NOPAT 76,125 90,125 105,525 122,465
Add Depreciation Br.91,250 Br.91,250 Br.91,250 Br.91,250
Net Operating Cash Flow Br.167,375 Br.181,375 196,775 213,715

Net operating working capital (NOWC) requirement

Year 0 Year 1 Year 2 Year 3 Year 4
Sales Br.500,000.00 Br.550,000.00 Br.605,000 Br. Br.665,500
NOWC (15% of sales) Br.90,000 99,000 108,000 119,700
CF due to NOWC (90,000) (9,000) (9,000) (11,700) 119,700
Salvage value: (Br.80,000)(1 – 0.3) = Br.56,000.00
Project net cash flows
Year 0 Year 1 Year 2 Year 3 Year 4
Initial Investment (Br.365,000)
Operating Cash Flows Br.167,375 Br. 181,375 Br. 196,775 Br. 213,715
CF due to NOWC (90,000.00) (9,000) (9,000) (11,700) 119,700
Salvage Cash Flow Br.56,000.00
Net Cash Flows (Br.455,000) Br. 158,375 Br. 172,375 Br. 185,075 Br. 389,415

IRR=43.858% @ this point NPV= 0, because the Sum of PV @ rate minus CF0 =0
The discount rate generally includes an inflation acceptable? Briefly explain. Why is the NPV method
premium. If the cash flows are not adjusted for inflation, superior to the other methods of capital budgeting?
the project’s NPV would be understated. Briefly explain.
Question 3: Evaluate the profitability of the project with Solution 3: The result is computed using the FV/PV
the NPV, IRR, MIRR, simple payback period, and charts, a financial calculator/ an Excel spreadsheet in
discounted payback period methods. Is the project the calculation of the NPV, IRR and MIRR.
NPV = Br.246, 930.2 Simple Payback Period = 2.184 years
IRR = 43.858% Discounted Payback Period = 2.539years
MIRR = 19%
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 Dashen Bank Share Company: Capital Budgeting Decision (Real-World Case Studies)

The NPV technique is superior to the other flows as in Question 2 and 3 above but a higher
techniques of capital budgeting. The goal of financial discount rate to find the project’s NPV.)
management is to maximize the market value of the firm. NPV@10.404%= Br.229, 500.98
The NPV of a project shows the contribution of the
Assume that WACC is 1 percentage point lower
project to the market value of the firm. The NPV
(9.404% -1%=8.404%): (Use the same cash flows as in
method’s reinvestment rate assumption is also more
Question 2 and 3 above but a lower discount rate to find
realistic compared with the IRR method.
the project’s NPV. )
Question 4: Conduct the stand -alone risk analysis of
NPV @8.404% = Br.265,051.86
the project with the sensitivity analysis and scenario
analysis techniques. Explain why sensitivity analysis and Assume that the project’s sales revenues and
scenario analysis can be useful tools in the capital costs (excluding depreciation) are 10% higher:
budgeting decision-making process when economic (Calculate new cash flows and find the NPV of the
project using the base WACC calculated in Answer 1).

2016
and financial conditions are likely to change in the
future.

Year
Solution 4: Assume that WACC is 1 percentage point
higher (9.404%+1%= 10.404%): (Using the same cash
25
Year 1 Year 2 Year 3 Year 4

Global Journal of Management and Business Research ( C ) Volume XVI Issue VII Version I
Sales Br.550,000.00 Br.605,000.00 Br.665,500 Br.732,050
Costs 330,000.00 363,000.00 399,300 439,230
Depreciation Br.91,250 Br.91,250 Br.91,250 Br.91,250
EBIT 128,750 150,750 174,950 201,570
Tax (30%) 38,625 45,225 52,485 60,471
NOPAT 90,125 105,525 122,465 141,099
Add Depreciation Br.91,250 Br.91,250 Br.91,250 Br.91,250
Net Operating Cash Flow Br.181,375 196,775 213,715 232,349

Net Operating Working Capital (NOWC) Requirement:

Year 0 Year 1 Year 2 Year 3 Year 4
Sales Br.550,000.00 Br.605,000.00 Br.665,500 Br.732,050
NOWC (15% of sales) 99,000 108,000 119,700 131,769
CF due to NOWC (99,000) (9,000) (11,700) (12,069) 131,769

Project net cash flows

Year 0 Year 1 Year 2 Year 3 Year 4
Initial Investment (Br.365,000.00)
Operating Cash Flows Br.181,375 196,775 213,715 232,349
CF due to NOWC (99,000) (9,000) (11,700) (12,069) 131,769
Salvage Cash Flow 56,000.00
Net Cash Flows ( 464,000) 172,375 185,075 201,646 420,118

NPV @ 9.404%= Br. 295,423.23 (Calculate new cash flows and find the project NPV
Now, assume that the project’s sales revenues using the base WACC calculated in Answer 1).
and costs (excluding depreciation) are 10% lower:
Operating cash flows

Year 1 Year 2 Year 3 Year 4

Sales Br. 450,000 Br. 495,000 Br. 544,500 Br.598,950
Costs Br.270,000 Br.297,000 Br.326,700 Br.359,370
Depreciation Br.91,250 Br.91,250 Br.91,250 Br.91,250
EBIT Br.88,750 Br. 106,750 Br. 126,550 Br. 148,330
Tax (30%) Br.26,625 Br. 32,025 37,965 44,499

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 Dashen Bank Share Company: Capital Budgeting Decision (Real-World Case Studies)

NOPAT Br.62,125 Br. 74,725 Br.88,585 Br.103,831

Add Depreciation Br.91,250 Br.91,250 Br.91,250 Br.91,250
Net Operating Cash Flow 153,375 Br.165,975 Br.179,835 Br. 195,081

Net Operating Working Capital (NOWC) Requirement

Year 0 Year 1 Year 2 Year 3 Year 4
Sales Br450,000 Br.495,000 Br. 544,500 Br.598,950
NOWC (15% of sales) Br.81,000 Br.89,100 Br.98,010 Br.107,811
CF due to NOWC (81,000) (Br. 8,100) (8,910) (Br.9,801) Br.107,811

Project net cash flows

2016

Year 0 Year 1 Year 2 Year 3 Year 4

Initial Investment (Br.365,000.00)
Year

Operating Cash Flows Br.153,375 Br. 165,975 Br.179,835 Br.195,081

26 CF due to NOWC (81,000) (8,100) (8,910) (9,801) 107,811
Salvage Cash Flow 56,000.00
Global Journal of Management and Business Research ( C ) Volume XVI Issue VII Version I

Net Cash Flows (Br. 446,000) Br. 145,275 Br.157,065 Br.170,034 Br.358,892

NPV @ 9.404% = Br. 198,373.25

Best-Case Scenario: Sales revenues and costs above with 10% higher revenues, 10 % higher costs,
(excluding depreciation) are 10% higher, and WACC is and discounts these cash flows to the present by using
1 percentage point lower. (the cash flows calculated 9.404%-1%=8.404% discount rate (new WACC):

Year 0 Year 1 Year 2 Year 3 Year 4

Cash Flows: (464,000) Br.172,375 Br.185,075 Br.201,646 Br. 420,118

NPV @ 8.404% = Br. 315,014.85 above with 10% lower revenues, 10 % lower costs , and
discounts these cash flows to the present by using
Worst-Case Scenario: Sales revenues and costs
9.404%+1%= 10.404% discount rate (new WACC):
(excluding depreciation) are 10% lower, and WACC is 1
percentage point higher. (the cash flows calculated
Year 0 Year 1 Year 2 Year 3 Year 4
Cash Flows: (Br. 446,000) Br. 145,275 Br.157,065 Br.170,034 Br.358,892

(Exchange rate $1= Ethiopian Birr 22)

NPV @ 10.404% = Br.182, 353.95E(NPV) = (0.3)(Br. 182,353.95) + (0.5)(Br. 246, 930.2) + (0.2)(Br.315,014.85) =
Br.241,174.25
σNPV = [(Br.182,353.95- Br. 241,174.25)2 (0.3) + (Br.246, 930.2- Br. 241,174.25)2 (0.5) + (Br. 315,014.85- Br.
241,174.25)2 (0.2)]1/2 = Br.46,314.15
CV(NPV) = Br. 241,174.25/ Br. 46,314.15= 5.207
Sensitivity analysis and scenario analysis can
be useful tools in the capital budgeting decision-
making process when economic and financial
conditions are likely to change in the future.

References Références Referencias

1. Ehrhardt and Brigham. (2011), Financial Manage-
ment: theory and practice, 13th edition.

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1 Global Journals Inc. (US)